Business Court Resolves A Trio Of Discovery Issues

Three interesting discovery issues were resolved last week by Judge Bledsoe's Order in Gay v. Peoples Bank.  First, can you obtain in discovery in a class action the fee arrangement between the plaintiff and his  lawyers?  Second, can you obtain (in any kind of case) a protective order against the deposition of your client's top executives?  And third, can you refuse to respond to an interrogatory asking you to identify the witnesses you intend to call at trial?

The answers to those very questions are contained in the Order.

Discoverability Of Engagement Letters In Class Actions

Gay is a purported class action against Peoples Bank regarding overdraft charges.  Peoples asked Gay to produce "letters or other forms of agreement concerning the terms of [Plaintiff's] representation by [his] lawyers in the case."  Order ¶2.

Gay responded that the engagement letter was privileged and not relevant to the subject matter of the litigation.

Judge Bledsoe observed that this was a case of first impression in North Carolina, stating that "[t]he North Carolina appellate courts do not appear to have addressed the production of an attorney fee agreement in a purported class action."  Order  ¶13.

But multiple federal courts have ruled on this issue and have generally held that fee agreements are not relevant to the issue of class certification.  See, e.g., Stanich v. Travelers Indem. Co., 259 F.R.D. 294, 322 (N.D. Ohio 2009)("Most courts . . . find [discovery of fee agreements] irrelevant to the issue of class certification, except perhaps to determine whether the named plaintiffs and class counsel have the resources to pursue the class action.").

Fee agreements can become relevant later in a case, however, if the class obtains a judgment or a settlement in its favor.  See, e.g., Porter v. NationsCredit Consumer Disc. Co., 2004 U.S. Dist. LEXIS 13641, *7 (E.D. Pa. 2004)('[f]ee agreements may be relevant . . . to the question of awarding attorney's fees upon settlement or judgment.").

Judge Bledsoe said that he found the federal cases persuasive, and ruled that the fee arrangement between Gay and his counsel was not relevant to the subject matter of the case and therefore not subject to discovery.  He denied the Bank's Motion to Compel without prejudice to its renewal at a later stage in the case.

But the Bank was successful at this point on a couple of separate issues: to prevent two of its top executives (its CFO and its Chief Administrative Officer) from being deposed, and to avoid having to respond to an interrogatory asking it to identify its witnesses for trial.

Protective Order Against Discovery Of Top Executives

The Bank said that five of its Officers had already been deposed and that further depositions of its C-level officers would be unduly burdensome, unnecessary and repetitive.

The Court gave a passing nod to something known as the "apex doctrine."  Judge Bledsoe wrote that:

[u]nder the apex doctrine, 'before a plaintiff may depose a corporate defendant's high ranking officer, the plaintiff must show how "(1) the executive has unique or special knowledge of the facts at issue and (2) other less burdensome avenues for obtaining the information sought have been exhausted."'

Order ¶18 & n.4 (quoting Smithfield Business Park, LLC v. SLR Int'l Corp., 2014 U.S. Dist. LEXIS 16338, *6 (E.D.N.C. 2014)).

But the Judge didn't go down the road of accepting the apex doctrine.  He accepted the Bank's argument that the additional depositions of the chief officers were unnecessary and that they would disrupt the Defendant's operations. He ordered that the depositions not be taken.

You Don't Have To Identify Your Trial Witnesses Before Trial

The Court also dealt with the issue whether the Bank was obligated to identify the witnesses it would be calling at trial so that the Plaintiff could decide whether to depose them before the end of discovery.  Apparently the Plaintiff's counsel raised this issue at a hearing, and had not served an interrogatory asking for this information. 

Judge Bledsoe observed that "[i]t is axiomatic that Defendant is not obligated to provide answers to interrogatories that Plaintiff has not yet served."  Order ¶23.

But even if an interrogatory requesting that information had been served, it would have been denied.  Judge Bledsoe stated that:

North Carolina law is clear that 'a party is not entitled to find out, by discovery, which witnesses his opponent intends to call at the trial.'

Order ¶24 (quoting King v. Koucouliotes, 108 N.C. App. 751, 755, 425 S.E.2d 462, 464 (1993)).

The Bank is represented by Reid Phillips and Dan Smith of Brooks Pierce.

 

 

 

A Million Dollars In Fees For Class Counsel in Wachovia/Wells Fargo Merger Lawsuit

When I first looked at Judge Murphy's (unpublished) Order in Ehrenhaus v. Baker earlier this month awarding attorneys' fees to the class action attorneys who sued Wachovia and Wells Fargo over their merger in 2008,  I was disappointed, though the Judge was following a mandate from the Court of Appeals.

He awarded $1 million in fees and expenses ($1,056,067.57 to be exact) to the NY lawyers representing the class.  That ruling came following a decision from the NC Court of Appeals reversing a previous award of fees in that case (by Judge Diaz) and remanding the fee determination to the Business Court.

Judge Murphy had assessed that his "sole directive" on remand was "to determine whether Plaintiff's attorney's fee award request of $1.5 million is reasonable in light of Rule 1.5 of the RPPC."  (the Revised Rules of Professional Conduct).  Order ¶14.

The Lawyers Got Much Less Than They Had Requested

My disappointment stems from my perspective that the Ehrenhaus lawsuit achieved absolutely nothing of value for Wachovia's shareholders, except for obtaining a more detailed proxy statement containing additional (and to me, pointless) disclosures about the merger transaction.  So why did the lawyers deserve anything at all, let alone a million dollars? 

But after shedding a few tears for the widows and orphans who were holding Wachovia stock and their undoubtable anger at a million dollars for lawyers who obtained nothing of value for them , I came to the conclusion that this was a pretty good shellacking of the lawyers for the class.   After all, they had asked for almost twice that amount ($1,975,000) to start with and had to wait for years to get paid (though there's no telling whether they will have to wait longer as there might be another appeal of this fee award).

And in this most recent round, they had asked for $1.5 million, requesting that a "contingency multiplier" be applied to the fee generated by the hours (over 3,000 hours) they spent on the case at their hourly rate.  Judge Murphy rejected that request because there was no contingent fee agreement signed by the class representative.  RRPC 1.5(c) says that "[a] contingent fee agreement shall be in a writing signed by the client."  Given the mandatory nature of the Rule, Judge Murphy saw this as "a prerequisite in order to create an effective contingent fee agreement."  Order ¶29.  He ruled that "in the absence of a valid contingent fee agreement between Plaintiff and his attorneys, as required by Rule 1.5(c), any award using a contingency multiplier is unreasonable."  Order ¶30.

If you are wondering about the hourly rates proposed to the Business Court by class counsel, they had previously asked Judge Diaz  for a $750/hour rate, which he had said in 2010 was "far in excess of those normally charged by attorneys in North Carolina."  In their new application for fees, class counsel backed down to a maximum hourly rate of $450, which Judge Murphy ruled "was not excessive when compared with the hourly rates of attorneys engaged in complex business litigation in Charlotte, Mecklenburg County, North Carolina."  Order ¶22.

Oh, and there was very bad news in this Order for Mr. Ehrenhaus' local counsel.  The Court awarded not a dollar to him even though there was a valid fee sharing agreement between him and Ehrenhaus' out of state counsel.  The agreement specified that local counsel would receive five percent of the total fee, but local counsel offered no evidence of the time expended or his hourly rate so the Court could not determine whether the five percent (which would have been more than $50,000) was reasonable.

If you are despondent over the lack of recovery by the North Carolina counsel, Judge Murphy seemed willing to consider the submission of further evidence on the services rendered by him. Order ¶38.

"Disclosure Only" Settlements Should Be Closely Examined For Their Value

Turning back to the reasonableness of the Ehrenhaus fee, there has been quite a bit of judicial discussion recently  about the fees appropriate in "disclosure only" settlements.  In the case of Kazman v. Frontier Airlines, 398 S.W.2d 377 (Texas App. 2013), the Texas Court of Appeals refused to award any attorneys' fees where the only relief for the plaintiff was additional disclosures in SEC filings.

Delaware courts have ruled that they should scrutinize these types of settlements.  The Judges there have taken to asking the attorneys requesting fees in disclosure only settlements to identify which of the disclosures obtained are the most material and thereby evaluating their value.  (See In re PAETEC Holding Corp. Shareholders Litigation (letter opinion).

What would Ehrenhaus' lawyers say about the value of the additional disclosures that they obtained?  What could they have said?  If you want to make that evaluation yourself, you can find the "enhanced" disclosures here.

Maybe I'm being too harsh on the minimal value of this lawsuit for Wachovia's shareholders.  The class did obtain the invalidation of the 18 month "tail" in the merger agreement between Wachovia and Wells Fargo.  That gave Wells Fargo the right to keep its 40% voting interest in Wachovia's stock for 18 months if the shareholders voted against the merger.

But really, what other entity was likely to be deterred from making a better bid for Wachovia as a result of the tail?  Remember that Wachovia was literally hours away from a receivership when Wells Fargo made its offer.  And Judge Diaz ruled in his 2008 opinion that "the sobering reality is that there are few (if any) entities in a position to make a credible bid for Wachovia that would be superior to the Merger Agreement."  2008 NCBC 20 at ¶151.

So was a $1 million fee warranted?  I don't know, but In the old days of the Business Court, Judge Tennille might have condemned these fees as "stinky fees."

Don't get me wrong on my feelings about fees paid to class action counsel.  Sometimes they are well-earned.  For example, just  the other day, Amazon.com notified me that I was getting $13.00 or so in the settlement of the price-fixing class action against it over the pricing of e-books.  (though my Dad pointed out that he only got $3.00)  But what was the award for fees and expenses for the lawyers for the class in that case?  More than $11 million.  I have no problem with that.  They can buy a lot of books.  And they deserve them.

As for the prospects of an appeal of this fee award, that is unlikely to be warmly welcomed by the Court of Appeals.  The Fourth Circuit said yesterday, in a completely unrelated case, that:

[A]ppeals from awards of attorneys fees, after the merits of a case have been concluded,. . .must be one of the least socially productive types of litigation imaginable.

Best Medical Int'l, Inc.  v. Eckert & Ziegler Nuclitec GMBH at 10 (quoting Daly v. Hill, 790 F.2d 1071, 1079 n.10 (4th Cir. 1986).
 

 

Don't Sue A North Carolina Board Of Directors Over A Merger Without Reading This Case

Last week's Order in Gusinsky v. Flanders Corp., 2013 NCBC 46, should be required reading for lawyers thinking of suing the directors of a corporation in North Carolina over a merger transaction.  It provides guidance on the duties of directors in those transactions, whether the claims are derivative or direct, and lays down some heightened pleading requirements for some of those types of claims. 

You probably wouldn't be surprised to have never heard of Flanders Corporation.  Flanders, based in Washington, NC, says it is the largest United States manufacturer of air filters.  It was publicly traded until its shareholders approved a sale of the company via a merger in May 2012.

That approval by the shareholders came nearly a year and a half ago, but it was only last week that the NC Business Court dismissed a shareholder class action challenging the merger.  In its Order, the Court dismissed the  claims by the Plaintiff (a trust) for breach of fiduciary duty and for aiding and abetting breach of fiduciary duty.

One claim of breach of fiduciary duty was an alleged failure to "maximize shareholder value" in the sale of the company, which Plaintiff claimed was a duty owed by the directors of Flanders to all shareholders.  The other was an alleged failure to disclose information material to the deal.

There Is Rarely A Fiduciary Duty Owed Directly From A Corporation's Directors To Its Shareholders

In dismissing the claim, the Business Court underscored the principle that directors virtually never owe a fiduciary duty directly to shareholders.  The duty is owed to the corporation, not shareholders. Those claims therefore must be made derivatively, unless the circumstances of the "Barger rule" are met. (I've written about the Barger rule before).

It seems so obvious that this type of claim is derivative that you might be wondering how this class action plaintiff even argued its position.  All it made was a couple of pretty anemic arguments which Judge Jolly shot down.

One was that the General Statutes contemplate fiduciary duties owed directly to shareholders.  Plaintiff said that G.S. Section 55-8-30, which delineates the duties of directors, contains only one reference to a duty to the corporation and that the other duties prescribed therefore must be owed directly to shareholders.

That's so wrong.  The North Carolina Court of Appeals held last year that:

The drafters [of the Business Corporation Act] recognized that directors have a duty to act for the benefit of all shareholders of the corporation, but they intended to avoid stating a duty owed directly by the directors to the shareholders that might be construed to give shareholders a direct right of action on claims that should be asserted derivatively.

Estate of Browne v. Thompson. __ N.C. App. __, 727 S.E.2d 573, 576 (2012)(quoting Russell M. Robinson, II, Robinson on North Carolina Corporation Law § 14.01[2] (7th ed.) (citing Official Commentary, N.C. Gen. Stat. § 55-8-30 (1989)).

The Plaintiff also failed in its argument that it met the requirements of the "Barger rule." Plaintiff struck out on that score because the Flanders directors owed no duty to the class Plaintiff that was personal to the Plaintiff.  The cases that the Plaintiff relied on were cases involving closely held corporations controlled by a majority shareholder.  Judge Jolly found them not to be apposite.

Judge Jolly also ruled that a claim alleging inadequate consideration in a merger transaction was a harm to the corporation itsself, not to shareholders individually.  He said that:

[t]his is so because a claim for inadequate consideration is, functionally, a claim for the diminution of the value of shares held by all Flanders shareholdrs.  Without more, the 'lost value' of all shares of Flanders' stock does not describe an injury peculiar and personal to Plaintiffs.

Op. Par. 32.

You can probably guess the rest of this story.  If you can't, remember that derivative claims require the prospective Plaintiff to make a demand on the corporation to pursue the claim before being allowed to file a complaint.  This Plaintiff made no demand.  As the Court observed, "A plaintiff's failure to fulfill the statuory requirements for bringing a shareholder derivative action [is an] . . insurmountable bar [to recovery]." (quoting Allen v. Ferrera, 141 N.C. App. 284, 287, 546 S.E.2d 761, 764 (2000)).

So the first claim for breach of fiduciary duty for "failure to maxinize shareholder value" was dismissed.

 

 

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North Carolina Business Court Defers To Delaware Courts In Class Action Challenging Sealy Merger

Maybe one day North Carolina will be the center of the business litigation universe, but for now the center of that universe remains in  Delaware.  

The Order last week in Justewicz v. Sealy Corp., 2012 NCBC 57 -- in which the Business Court stayed a North Carolina class action in favor of parallel Delaware class actions -- illustrates that.

The Justewicz case challenges the validity of the sale of Sealy (the mattress company) to Tempur-Pedic, asserting that the sale is overly preferential to Tempur-Pedic and tp Sealy's board members.  Five similar class actions were filed in Delaware, one before the Justewicz case and the other four shortly thereafter.

The defendants in Justewicz moved to stay the case per N.C. Gen. Stat. §1-75.12, which says that: 

If, in any action pending in any court of this State, the judge shall find that it would work substantial injustice for the action to be tried in a court of this State, the judge on motion of any party may enter an order to stay further proceedings in the action in this State. A moving party under this subsection must stipulate his consent to suit in another jurisdiction found by the judge to provide a convenient, reasonable and fair place of trial.

G.S. §1-75.12(a).

In deciding to stay the North Carolina case, Judge Gale looked to several of the twelve factors identified by Judge Tennille in a 2007 decision, Levy Investors v. James River Group, Inc. (unpublished).

He ruled that the case presented an unsettled issue of Delaware law: whether a party could obtain a pre-closing injunction of a consent merger based on a defective process claim, and that this issue was better decided by a Delaware court.  

Also supporting the ruling was a finding that Delaware was at least as convenient a forum with an "equal or greater nexus to the controversy."  That was so even though Sealy is headquartered in North Carolina.  Judge Gale held that "[w]hile North Carolina does have an interest in the takeover of a business located in North Carolina, Delaware also has an interest in a corporation incorporated there and in the application of Delaware law."  Op. ¶34.

Judge Gale also found significant that the Defendants said that they would not protest Justewicz's right to participate in the Delaware cases, and that the Justewicz case had not advanced further than the Delaware cases.

Next, he noted that Delaware has a procedural mechanism allowing for direct review by the Delaware Supreme Court  He said that this "expedited appeal process could be useful."  If you aren't familiar with that expedited process (I wasn't), it is contained in Rule 25 of the Delaware Supreme Court Rules.

Substantial Injustice.  And finally, Judge Gale held that:

 requiring Defendants to defend essentially the same lawsuit in two different states will work a substantial injustice on Defendants and unnecessarily raises the possibility of inconsistent decisions.

Op. Par. 48.

Class Action Defendant Waived Right To Compel Arbitration After Class Action Certification

You probably remember the earlier opinion in Elliott v. KB Home, Inc., in which Judge Jolly certified a class action against the homebuilder KB Home over the improper installation of HardiePlank siding.

Last week, the Business Court ruled in another opinion in the case (2012 NCBC 55) that KB Home had waived its right to seek arbitration of those claims.  The waiver resulted from KB Homes'  delay in asserting its arbitration rights and the expense incurred by the Plaintiffs in litigating in court.

The standard for waiver was set out by the North Carolina Supreme Court in Servomation Corp. v. Hickory Constr. Co., 316 N.C. 543, 544 (1986).  Waiver of the right to compel arbitration occurs when the party with the arbitration right "acts inconsistently with arbitration, and the party opposing arbitration can show it has been prejudiced as a result."  Op. 35.

As for prejudice, that results: 

if [the plaintiff] [a] is forced to bear the expense of a long trial, [b] it loses helpful evidence, [c] it takes steps in litigation to its detriment or expends significant amounts of money on the litigation, or [d] its opponent makes use of judicial discovery procedures not available in arbitration.

Op. 35 (quoting Servomation Corp., supra, at 544).

The Plaintiffs in the KB Homes case had incurred fees and expenses of approximately $100,000 in litigating their claim by participating in four hearings and taking twenty depositions.  Judge Jolly said that:

KB Home's delayed attempt to enforce the arbitration provisions only after Plaintiffs have expended material amounts of time and resources in pursuing their Claims would be prejudicial to Plaintiffs.  Such time and resources were expended after KB Home's right to arbitrate accrued and could have been avoided through an earlier demand for arbitration. KB Home could have demanded arbitration as early as 2008, well before the named Plaintiffs actively litigated the Claims. Permitting KB Home to enforce its arbitration rights now would be inconsistent with the principles of waiver outlined in Servomation.

Op. 39.

The interesting issue from a class action perspective was whether the waiver of the right to arbitration ran to the unnamed class members.  KB Homes said that it couldn't have asserted its arbitration rights against the unnamed class members until the class was certified and that it hadn't delayed in moving to compel arbitration as to them.  

Judge Jolly rejected that argument, saying that it reeked of "gamesmanship."  Op. 41 & n.37.  He ruled that  ruling otherwise would give the Defendant a "second bite at the apple" chance to relitigate the class certification decision with the unnamed plaintiffs.  He relied on an unpublished decision on the point, Kingsbury v. U.S. Greenfiber, 2012 U.S. Dist. LEXIS 94854 (C.D. Cal. 2012).  In Kingsbury, the court stated:

[T]o accept [defendant's arguments and compel arbitration] would be to condone gamesmanship in the class certification process. A defendant could wait in the weeds and delay asserting its arbitration rights. It could file motions to dismiss, litigate the named plaintiff's legal theories, and oppose class certification motions. If and when a class is finally certified, the defendant could simply assert its arbitration rights and defeat certification of the previously-certified class. In the interests of the fair and efficient administration of justice, the Court cannot accept [defendant's] position.

The Business Court adopted the Kingsbury holding "for the same considerations of fairness and the efficient administration of justice."  Op. 41 & n.37.

This isn't the first time that the Business Court has considered a waiver of arbitration issue. Judge Tennille did so ten years ago, in  Polo Ralph Lauren Corp. v. Gulf Insurance Co., 2001 NCBC 3 (N.C. Super. Ct. Jan. 31, 2001) and found that a party had not waived its right to arbitration by pursuing discovery in the court proceeding.

 

Tailors And Class Actions

 If you think that tailors have nothing to do with class actions, you are wrong.  Judge Jolly denied a motion for class certification last week because the proposed class was not "tailored" as was "practicable under the circumstances." Op.  ¶37 & n.34    The case is Lee v. Coastal Agrobusiness, Inc., 2012 NCBC 49.

Here's the story: Plaintiffs bought an inoculant called N-TAKE from the Defendant to use on their peanut crop.  Instead of enhancing their crop of peanuts, the N-TAKE application resulted in the loss of Plaintiffs' entire peanut crop.  Twenty of the 87 other purchasers of N-TAKE had similar problems and settled their claims with the Defendant.  Plaintiffs didn't settle and sought to represent a class of the remaining 67 purchasers of N-TAKE.  

Plaintiffs alleged that all the other N-TAKE purchasers had suffered similar harm to their peanut  crops,  and were therefore proper members of the proposed class.  But Judge Jolly was not willing to accept that assertion without "at least some demonstration of a causal connection between the purchase and use of N-TAKE by proposed class members and some harm suffered by them as a result."  Op.  36.  He said there was no evidence in the record of losses to the proposed class members.

What led in part to this ruling was the advanced stage of the case.  It was well past the pleadings, and there had been substantial discovery and therefore an opportunity to contact the members of the [proposed class and to confirm their actual losses.  Judge Jolly held:

Our courts have made a distinction between a plaintiff's burden of demonstrating the existence of a class at the pleading stage and the same burden following discovery and a hearing on class certification.  [Crow v. Citicorp Acceptance Co., 319 N.C. 274, 282, 354 S.E.2d 459, 465 (1987)]  Where, as here, there have been ample opportunities  for discovery and a hearing on class certification, Plaintiffs must establish, to the satisfaction of this court, "the actual existence of a class, the existence of other for prerequisites to utilizing the class action procedure, and the propriety of their proceeding on behalf of the class." Id. (emphasis added). At the current stage of these proceedings it is insufficient for Plaintiffs merely to allege the existence of a class. Id. Instead, Plaintiffs must demonstrate the actual existence of a class. Id.

Op.  32 (emphasis in original).

He remarked (in 34) that plaintiffs' counsel had not done anything to contact the potential class members, although the names of all the N-TAKE purchasers had been disclosed by the defendants during discovery.

Further daunting the request for class certification was the Court's perspective that it would "be required to conduct sixty-seven separate trials in order to reach an appropriate damages award as to the class plaintiffs."  Op.  42.

So where does this "tailoring" business come from?  The NC Court of Appeals said in Blitz v. Agean,, Inc., 197 N.C. App. 296, 311, 677 S.E.2d 1 (2009) that a class plaintiff has the burden to "show that he has, through thorough discovery and investigation, presented the trial court with as tailored a proposed class as practicable."  Op.  37 & n.34.

 

 

Deja Vu All Over Again (And Again) In Junk Fax Class Action Case

It's about junk faxes and class certification again (and even again) in the Business Court.  Wednesday's decision in Blitz v. Agean, Inc., 2012 NCBC 20 marks the third time the Court has refused to certify a class action under the Federal Telephone Consumer Protection Act.  (The TCPA, 42 U.S.C. §227, prohibits the transmission of "unsolicited advertisements" to fax machines)

The same Agean case had already been the subject of a dismissal by Judge Diaz, five years ago, but which was reversed by the Court of Appeals in a 2009 decision.  Judge Diaz had hung up on  another putative TCPA class action by Mr. Blitz in Blitz v. Xpress Image, Inc., 2006 NCBC 10.  That one wasn't appealed.

So why couldn't the Plaintiff in Agean connect, even after the COA ruling?  Judge Murphy said that even if a common question predominates in a class action, that this isn't the end of the analysis.  He held "a common question is not enough when the answer may vary with each class member and is determinative of whether the member is properly part of the class."  (quoting Carnett's, Inc. v. Hammond, 610 S.E.2d 529, 532 (Ga. 2005).

It was getting the answer to the question of whether each of the proposed class members had received unsolicited faxes was the problem.  Blitz said the class members were all persons whose fax numbers were on a list purchased by the Defendants, but some of those on the list had requested that the Defendants send them faxes.  So those persons weren't entitled to be class members.

Judge Murphy said that the Court's time, at trial, would be consumed with determining whether those included in the proposed class definition were entitled to be members of the class.  Judge Murphy said that "[t]his would have the Court conducting individual inquiries into each [fax] number and result in the type of mini-trials that class actions are designed to avoid." Op. ¶36.

But that wasn't the only flaw in Plaintiff's case seen by Judge Murphy.  He was concerned that the class action was being used by Blitz as "inappropriate leverage" to settle his own claims, which were worth only about $2500 (the statute authorizes $500 in damages for each unsolicited fax).  Judge Murphy quoted an early Judge Tennille opinion, Lupton v. Blue Cross & Blue Shield, 1999 NCBC 3, for the proposition that:

Class actions can involve amounts that threaten to cripple or bankrupt the defendant. This creates a potential for abuse that is readily apparent: the use of the class action complaint to put greater financial pressure on defendants to settle with the individual plaintiff.

Id. ¶10.

Judge Murphy, sensing that type of financial pressure at work, said that in his discretion certification "would be unjust on equitable grounds."  Op. ¶39.

Sometimes it takes longer to find the picture for the post than it takes to write the post. Today was one of those days.   I scoured the Internet for a picture of Yogi Berra sending a fax, which would have been ideal, but there are none to be found.  But I was surprised to find that Yogi can be faxed at his family company, LTD Enterprises (the number is 973-655-6788).  So with Yogi's unavailability,  a dinosaur is what you get.  That's what the fax machine has become.  There also were no pictures available of dinosaurs sending faxes (come on, look at those little hands on the tyrannosaurus!) and not even a fax number for a dinosaur.

 

 

Class Action Certified In North Carolina Against KB Homes

You probably haven't heard of HardiePlank.  According to its manufacturer, James Hardie Industries NV, it is "the most popular brand of siding in America and can be found on over 4 million homes."

But you've probably heard of KB Home, one of the largest home builders in the country.  It builds in North Carolina and throughout the United States.

On Monday, Judge Jolly  certified a class action making claims against KB Home in Elliott v. KB Home North Carolina, Inc.  The case focuses on HardiePlank.  The class members are "all North Carolina residents" who own a home built with HardiePlank siding by KB Home where a weather restrictive barrier was not placed behind the HardiePlank.  Another defendant in the case is Stock Building Supply, LLC, which installed the HardiePlank on many of the homes involved in the certified class.  The class members allege water infiltration into their homes as a result of the lack of a barrier.

The lawyers for the parties have sparred over whether the North Carolina Building Code required the installation of the barrier at the time the homes were built.  Judge Jolly ruled that it was not necessary for him to consider that issue at the class certification stage.  Order ¶20.  Also, the varying nature of damages experienced by the class members did not bar certification.  Relying on a Ninth Circuit decision, Judge Jolly said "[t]he amount of damages is invariably an individual question and does not defeat class action treatment." (quoting Blackie v. Barrack, 524 F.2d 891, 905 (9th Cir. 1975)).

The number of class members ranges between 277 and 554, depending on whether the homes are owned by an individual or by a couple.  They are located in KB Home's developments known as Amberly and Twin Lakes, both in Cary, NC.

This isn't the first time the Business Court has taken on a class action regarding a construction issue.  The Business Court handled a significant case regarding the synthetic stucco problem which plagued homeowners in the late 1990's, Ruff v. Parex, Inc., 1999 NCBC 6 (N.C. Super. Ct. June 17, 1999)(Tennille).

There's no telling whether HardiePlank will prove to be as large a problem as synthetic stucco was.  The plaintiffs' lawyers estimate the cost of repair for each home to be $30,000.  Although KB Home disputes that figure, that puts the full exposure for nearly 300 homes at almost $9 million.  For a public company like KB, whose last 10-K filing shows that it hasn't turned a profit between 2009 and 2011, that's a pretty daunting potential liability.

 

Business Court Resolves Dispute Among Lawyers Over Division Of Class Action Fee Pie

Yesterday, Judge Gale entered summary judgment against a North Carolina lawyer who claimed he was entitled to a greater share of a $3 million fee award to a group of plaintiffs' counsel in a series of settled class actions.  The opinion was in the case brought by the lawyer seeking an enhancement of his fee, Donald Dunn, against the lawyers who were his co-counsel, Henry Dart and Robert Zaytoun, in Dunn v. Dart.

The lawyers represented members of the communities living near an industrial plant in Apex, North Carolina at the time of an explosion there. Those families who were forced to evacuate their homes as a result of the explosion settled several class actions for payments of close to a total of $8 million.

A federal judge approving the settlement in the Eastern District also approved the $2.9 million fee award, which allocated $75,000 to Dunn.  Dunn then filed a separate action in North Carolina asserting that he had a side arrangement with his co-counsel to split one third of the fee 50/50 with them.  Dart walked from the fee award with $975,000 and Zaytoun with $670,000, aggrieving Dunn, who received only a paltry $75,000 for his work on the case.

Dunn presented emails speaking to the split, but Judge Gale ruled that the emails were insufficient to prove an agreement, and that they anticipated further negotiation over terms followed by a final written agreement.

The other basis for summary judgment against Dunn was North Carolina Rule of Professional Conduct 1.5, which says that lawyers from different firms may divide fees only if the client consents to the split, and the agreement is confirmed in writing.   Dunn had no evidence of such consent, and no written agreement (except for the found-to-be-inadequate emails).  Judge Gale said that the agreement was unenforceable without compliance with the Rule

 

The Fourth Circuit On Recusals And Pro Hac Vice Admissions

We all sometimes say things that we are sorry to have said.  Even judges. Those types of statements by a District Court Judge in South Carolina, which the Fourth Circuit called "neither wise nor temperate" were the subject of a recusal motion ruled on last week by the Fourth Circuit, in Belue v. Aegon USA, Inc.   The Court also discussed the circumstances under which a pro hac vice admission can be withdrawn, taking issue with the trial judge's revocation of that status.

The comments by Judge Anderson of the District of South Carolina were made in connection with a hearing in a  class action matter.  He criticized a related settlement in another jurisdiction as possibly being one "of those buddy settlements  we have to watch out for."  He was also critical of the defendants' approach in another case and suggested that the settlement in that case had been "improper."

This prompted the defendants' lawyers to file a motion to recuse Judge Anderson pursuant to 28 U.S.C. sec. 455 (b)(1), which requires recusal when a judge "has a personal bias or prejudice concerning a party, or personal knowledge of disputed evidentiary facts concerning the proceeding."

The Judge's reaction to the motion to recuse was fiery.  He said it was the defense counsel's reaction to negative rulings, saying "you lose the case and attack the judge."  He called the request for recusal "the most inappropriate motion in the world."

Judge Wilkinson, writing for the Fourth Circuit, said that recusals based on in-trial conduct generally involved "singular and startling facts."  He noted that the Supreme Court has said that the bias should stem from a source outside of the judicial proceeding, usually requiring an "extrajudicial source." 

The Fourth Circuit called the recusal motion "decidedly ill founded."  Judge Wilkinson said that "strong views" expressed by a judge about a case were not grounds for recusal, stating that:

Litigation is often a contentious business, and tempers often flare. But to argue that judges must desist from forming strong views about a case is to blink the reality that judicial decisions inescapably require judgment. Dissatisfaction with  a judge’s views on the merits of a case may present ample grounds for appeal, but it rarely — if ever — presents a basis for recusal.

Op. p.15. 

The opinion expresses a general disfavor of recusal motions, saying that they should not "become a form of brushback pitch for litigants to hurl at judges who do not rule in their favor," and that "no appellate court can afford to leave trial judges prey to a slew of groundless calls for recusal from litigants whose major objection to those judges appears to be a perceived disagreement with them."

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The Million Dollar Haircut: NC Business Court Reduces Fee Application In Wachovia/Wells Fargo Class Action

The lawyers who represented a class of Wachovia shareholders in the lawsuit over Wachovia's merger last year with Wells Fargo have gotten a ruling on their application for $1,975,000 in fees. Judge Diaz knocked that application down by over a million dollars -- or more than half of the fees sought -- to $932,621.98.

The Order today in Ehrenhaus v. Baker ruled that "the time spent by counsel on the case appears to be somewhat excessive," and that "the hourly rates of Plaintiff's New York counsel [of $750 per hour] are far in excess of those normally charged by attorneys in North Carolina."

I cannot tell you how the Court got to the $932,621.98 number because, as Judge Diaz observed, Plaintiff's counsel "did not submit detailed time records of the work done." But the fee application claimed 2,333 hours of work, which breaks down to an award of $399.75 per hour.

On a more serious note, there are two parts to the Order that may have more of a future precedential value.  One is that Judge Diaz' ruling certified a non-opt-out class. In other words, class members didn't have the traditional right to opt out of the settlement and pursue their individual claims. The Court said that this type of certification was appropriate given that this was a lawsuit over a merger seeking primarily equitable relief. There are no appellate cases in North Carolina approving such a non-opt-out certification, although the Business Court has certified such classes before.

The other is the Court's consideration of the reaction of the class itself in determining that the settlement was adequate. Judge Diaz said that "the reaction of the class to the settlement is perhaps the most significant factor to be weighed in considering its adequacy." He noted that over a million class members had received notice of the settlement, but that only 51 had objected. He held that "the overwhelming majority of the Class has been virtually silent as to the Proposed Settlement," and that "the muted reaction of the Class . . . supports a finding that the Proposed Settlement is fair and reasonable."

I don't think this was the tacit approval that Judge Diaz thought it was. It's more likely to me that Wachovia's shareholders were just tired of the whole darn thing.

Fourth Circuit Rules On Determining The "Principal Place Of Business" Of A Limited Liability Company Under The Class Action Fairness Act

Diversity is determined differently for corporations and limited liability companies. Corporations are citizens of the states in which they are incorporated and the state where they have their principal place of business, but an LLC is a citizen of each state in which its members reside.  See, e.g., General Technology Applications, Inc. v. Exro Ltda, 388 F.3d 114 (4th Cir. 2004).

But when the Class Action Fairness Act is involved, things are different. Last Friday, the Fourth Circuit ruled in Ferrell v. Express Check Advance of SC LLC that a limited liability company is an "unincorporated association" for CAFA purposes, and that the determination of the "principal place of business" of an LLC should be determined using the same test applied to a corporation. In other words, the citizenship of the members of an LLC isn't necessarily determinative of diversity in a CAFA case, and it wasn't in Express Check.

Background 

The LLC defendant conducted its operations in South Carolina, but its sole member was a corporation incorporated in Missouri with a principal place of business in Kansas. It had been sued by a Plaintiff who was an individual resident of South Carolina.

The Defendant, relying on the Missouri and Kansas citizenship of its sole member, removed the case to federal court based on diversity jurisdiction, and the Plaintiff moved for a remand.

If CAFA hadn't been at issue, the general rule for determining the citizenship of an "unincorporated association" would have applied. That rule looks to the citizenship of each member of the entity, so an LLC would be a citizen of each state in which its members resided. There would have been diversity under that test because the Defendant was either a Missouri entity or a Kansas entity. 

An LLC Is An Unincorporated Association Under The Class Action Fairness Act 

But under CAFA, Congress changed the traditional rule, and said that an "unincorporated association" should be treated like a corporation, and deemed a citizen of the State "under whose laws it is organized" and also where it has its principal place of business. 28 U.S.C. Sec. 1332(d)(1).

Express Check, concerned that its principal place of business might be found to be diversity-defeating South Carolina, sought to get out from under the CAFA rule. It said that an LLC wasn't intended by Congress to be included in the definition of an "unincorporated association." The Fourth Circuit cut through that argument quickly, calling it "linguistic," and held that an LLC's "citizenship for purposes of CAFA is that of the State under whose laws it is organized and the State where it has its principal place of business."

The decision sweeps beyond LLCs, as Judge Niemeyer ruled that the term "unincorporated association," under CAFA, "refers to all non-corporate business entities."

The Court then turned to the issue of where the LLC had its principal place of business.

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Law Firm's Client Didn't Have First Amendment Right To Be Anonymous

We'll probably never know the identity of the Appellant in Lefkoe v. Jos. A. Bank Clothiers, Inc., decided yesterday by the Fourth Circuit.  Whether anyone, including the Defendant, was entitled to know that person's name was the whole point of the appeal by the party referred to by the Fourth Circuit as the "Doe Client."

The Doe Client had accused Jos. A. Bank, a publicly traded company, of serious accounting fraud. That individual, who claimed a constitutional right to anonymity, appealed a ruling of a trial judge in the District of Maryland ordering his or her identity to be disclosed to the Defendant.

The Fourth Court's ruling touches both deposition and subpoena procedure under the Federal Rules of Civil Procedure as well as issues of freedom of speech under the First Amendment.

Background

You'll need more than a little bit of background, as the case has elements of a John Grisham novel. Lefkoe is a securities class action. Plaintiffs assert fraud based on a sharp drop in the clothing company's share price when it delayed an earnings report.

The delay occurred because Bank's Audit Committee had received, shortly before the report's due date, a letter from the law firm of Foley & Lardner making detailed charges of accounting improprieties.The letter was sent by the law firm on behalf of a shareholder who it said "held several hundred thousand shares" of Bank stock. The shareholder was not identified in the letter.

Bank hired lawyers and accountants to investigate the charges. The conclusion of the investigation was that the charges were "without substance." In the securities lawsuit, filed in federal court in Maryland, Bank sent a subpoena to the law firm seeking to require it to present a witness to testify as to the identity of its client. The subpoena was issued from the Massachusetts district court.

The law firm objected there to the subpoena, asserting that its client had "a right of anonymity as protected by the First Amendment." The Massachusetts judge permitted the deposition to take place. The law firm presented the Doe Client as the witness. The Court ordered the deposition sealed and entered a protective order stating that the lawyers for Bank couldn't tell their client the name of the Doe Client.

The lawyers for Bank investigated the Doe Client, and found facts suggesting it had taken "deliberate and successful actions to drive down the market price" of Bank stock, and furthermore that it was a short seller who held a substantial quantity of puts on Bank stock.  The Doe Client therefore stood to profit from the decline in Bank stock.

The clothing company's lawyers then asked the Maryland judge to permit them to provide the name of  the Doe Client to Bank. The Maryland judge agreed to a wider disclosure, but only to Bank's in-house counsel.

The Doe Client appealed to the Fourth Circuit, arguing that the Maryland court didn't have the authority to modify the Massachusetts' court's ruling, and furthermore that the ruling violated the Doe Client's First Amendment rights.

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Fourth Circuit Orders Certification Of Race Discrimination Class Action

The Fourth Circuit ordered certification of a race discrimination class action last Friday in Brown v. Nucor Corp. reversing the district court. The 2-1 decision ordered the lower court to certify a class of employees making claims for disparate impact, disparate treatment, and hostile work environment.

The majority opinion, written by Judge Gregory, discussed: (1) when discrimination claims meet the commonality and typicality requirements of Rule 23, (2) the use of statistical evidence when the historical data to make such calculations has been destroyed, and (3) whether the plaintiffs could represent employees who worked in other  departments of the employer.

The plaintiffs, African-American employees at Nucor's South Carolina plant, asserted that Nucor's promotion procedure allowed white managers and supervisors to use subjective criteria in promotion decisions, and that this had a disparate impact on African-American employees applying for promotions. 

The trial court had determined that subjectivity in decision-making alone couldn't establish a disparate impact claim, and had found the statistical evidence presented by the class plaintiffs insufficient to make out a disparate impact. The Fourth Circuit disagreed with both conclusions.

Commonality and Typicality

The Court held that "[a]llegations of similar discriminatory employment practices, such as the use of entirely subjective personnel processes that operate to discriminate, satisfy the commonality and typicality requirements of Rule 23(a)."  It further found that the plaintiffs had "presented compelling direct evidence of discrimination," including:

denials of promotions when more junior white employees were granted promotions, denial of the ability to cross-train during regular shifts like their white counterparts, and a statement by a white supervisor [who wore a Confederate flag emblem on his hardhat] that he would never promote a black employee.

The Court held that "[t]his evidence alone establishes common claims of discrimination worthy of class certification."

The opinion stressed that "[t]he question before the district court was not whether the appellants have definitively proven disparate treatment and a disparate impact; rather the question was whether the basis of appellants' discrimination claims was sufficient to support class certification." Op. at 11. It further observed that "evidence need not be conclusive to be probative, and even evidence that is of relatively weak probative value may be useful in meeting the commonality requirement." Op. at 12.

Statistical Evidence

On the point of statistical evidence, the main issue involved Nucor's destruction of promotion records from before 2001.  The plaintiffs had attempt to fill in the missing data by extrapolating from change-of-status forms showing positions filled during the 1999-2000 time period and assuming that the racial composition of the bidding pool had been the same then as in later years.

The Fourth Circuit held that the trial court had improperly refused to consider these calculations:

when an employer destroys relevant employment data, the plaintiffs may utilize alternative benchmarks to make up for this lost data. Certainly, the benchmarks will not be as good as the destroyed data themselves -- that would be next to impossible to achieve. Nevertheless, the plaintiffs should not be penalized by the destruction (however innocent) of such data.

Op. at 10 n.4.

There are other significant points on statistical evidence in the opinion, including a discussion of a two standard deviation threshold and the "80% rule."

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"Juridical Link" Leads To Certification Of Class Action By The North Carolina Business Court

The Business Court made two novel rulings last week in its certification of a class action in Clark v. Alan Vester Auto Group, Inc., 2009 NCBC 17 (N.C. Super. Ct. July 17, 2009).  First, it adopted the the concept of a "juridical link," which it used to determine the scope of the class claims.  Second, the Court transferred the burden of class notice, which usually rests on the Plaintiff, to the Defendants due to their spoliation of evidence.

The Plaintiffs were seeking certification of a class of car buyers who had gotten loans through a group of auto dealerships. Plaintiffs claimed that the dealers violated the Motor Vehicle Dealers and Manufacturers Licensing Law by falsely reporting that he had made a down payment to purchase a used car. The dealers did this, according to the Plaintiffs, in order to increase the likelihood of the buyers getting loans and to get loan approvals for higher amounts.

First Impression Ruling On Juridical Link

In a second ruling issued the same day, the Court dismissed one Plaintiff's claim on a motion for summary judgment, ruling that it could address the merits issue before determining the certification issue. The remaining Plaintiff was seeking to represent a class not only of purchasers from the dealership with which he had dealt, but also purchasers from all of the dealerships under the same corporate umbrella.  The Defendants argued that the Plaintiff lacked standing to sue the other dealerships, and that he could not be a proper class representative as to them.

Judge Jolly ruled against the Defendants, and certified a class against all of the dealerships, relying on the "juridical link doctrine."  He described a judicial link "as the existence of a legal relationship between two or more defendants in a way such that resolution of the disputed claims in a single civil action is preferable to numerous disparate, but similar actions." Op. ¶46.  He held, in what he "deem[ed] to be a matter of first impression for the North Carolina courts" that:

The 'juridical-link doctrine' answers the question of whether two defendants are sufficiently linked so that a plaintiff with a cause of action against only one defendant can also sue the other defendant under the guise of class certification. . . . A juridical link sufficient to confer standing generally must stem from an independent legal relationship. It must be some form of activity or association on the part of the defendants that warrants imposition of joint liability against the group even though the plaintiff may have dealt primarily with a single member. This link may be a conspiracy, partnership, joint enterprise, agreement, contract, or aiding and abetting which acts to standardize the factual underpinnings of the claims and to insure the assertion of defenses common to the class.

Op. ¶46.

The juridical link was established in Clark due to the close corporate relationship of the defendant dealerships, which included the following: (1) they were managed by a single corporation, (2) they all shared the same compliance manager and compliance manual, (3) the same individual was the president of each dealership, (4) they shared common officers, (5) their accounting was done by the same accountant.

Spoliation Results In The Shifting Of The Expense Of Class Notice

In a third ruling in the case, Judge Jolly ruled that the Defendants had spoliated evidence by destroying "cover sheets" which might have shown whether Defendants had falsely reported a down payment.

The Court observed that it was the "general rule" that a plaintiff should bear the cost of identifying and notifying class members of the pendency of a class action, but that there was an exception when "there has been abuse of discovery or other pre-trial process by the defendant."

The Defendants' destruction of the cover sheets, according to the court, went "directly to the existence and identity of class members."  The Court ruled that the Defendants would therefore bear the costs of identifying and notifying class members of the action, not the Plaintiff.

I have not attached the briefs to this post because they were all filed under seal.

Fourth Circuit Enforces Class Action Settlement Agreement

The Fourth Circuit ruled yesterday in Huttenstine v. Mast on the Defendants' effort to back out of a class action settlement to which they had agreed, and affirmed an entry of judgment against the Defendants for the full amount of the settlement.

The Defendants, who apparently had second thoughts about their deal, refused to make the $425,000 payment called for by the agreement.  They took the position that their payment was a condition precedent to the effectiveness of the settlement agreement, and that their failure to comply with the condition precedent resulted in the entire agreement being void.

The Fourth Circuit rejected that argument in an unpublished opinion, finding it to be "incomprehensible."  The Court drew a distinction between promises and conditions precedent, ruling that the obligation to make the settlement payment was a binding promise on behalf of the Defendants, not a condition precedent.  When the Defendants failed to pay, they breached their promise, and the District Court had properly entered judgment against them in the full amount of the settlement, plus interest.

The Court further observed that the Defendants were not entitled to refuse to make the payment and to then benefit from their own failure to satisfy the condition.  It held, relying on a line of North Carolina cases, that "one who prevents the performance of a condition, or makes it impossible by his own act, will not be permitted to take advantage of the nonperformance."

Those Fax Charges Can Add Up

Given the dinosaur-like status of the fax, it was a surprise that there were two North Carolina decisions last week, one from the Court of Appeals and one from the Business Court, that involved faxes. The appellate decision is a class action case; the Business Court decision addressed the more mundane subject of how much a law firm can charge for sending a fax.

The COA decision, Blitz v. Agean, Inc., involved the Telephone Consumer Protection Act.  That federal legislation was enacted 18 years ago, when fax machines were a routine means of communication.  The TCPA outlawed the annoying practice of sending unsolicited fax advertisements.  It imposed penalties of $500 per unsolicited fax, allowed for attorneys' fees, and immediately attracted class action lawyer like moths to a flame.

The Blitz case was a purported class action on behalf of 900 individuals who had received multiple faxes from the defendant, a restaurant operator in Durham.  The Business Court had dismissed the case in a 2007 ruling, holding that individual inquiries of whether the recipients had consented to the receipt of the faxes, and whether there was a "established business relationship" between the faxer and the faxees, would predominate over the common issues.  Judge Diaz also ruled that the claims were better brought in small claims court.

The Court of Appeals reversed, ruling that the need to determine consent wasn't determinative, and that the decision on whether a TCPA class action should proceed should be made on a case by case basis.  On the point about small claims court, the appellate court said that there were circumstances under which a class member's claims might exceed the $5,000 limit of small claims jurisdiction, and that the small claims court didn't have the power to enter the injunctive relief permitted under the TCPA and requested by the Plaintiff.

The other fax related ruling last week, Estwanik v. Gudeman, was a Business Court decision on a completely different subject.  The issue was a receiver's application for fees.  The application included a charge of $301 for faxes, which was attributable to 301 pages faxed by the receiver's counsel to a lawyer in response to three subpoenas. 

The receiver's counsel had asked to send the 301 pages by email, but the lawyer requesting them had insisted on getting them via fax, the same day that the subpoenas were served.  The receiver's law firm apparently charged its standard $1.00 per page fax charge. Judge Diaz rejected the $1.00 per page fee, said it was "exorbitant," and ruled that the receiver should collect it from the attorney who sent the subpoena.

Can a lawyer charge $1.00 per page for a fax?  Maybe.  This type of charge is covered in ABA Formal Opinion 93-379 (titled Billing for Professional Fees, Disbursements and Other Expenses).  The Opinion doesn't address fax charges specifically, but says the following about the allowable charge for copying by a law firm: "no more than the direct cost associated with the service (i.e., the actual cost of making a copy on the photocopy machine) plus a reasonable allocation of overhead expenses directly associated with the provision of the service (.e., the salary of a photocopy machine operator).

The ABA Opinion goes on to say "it is impermissible for a lawyer to create an additional source of profit for the law firm beyond that which is contained in the provision of professional services themselves.  The lawyer's stock in trade is the sale of legal services, not photocopy paper, tuna fish sandwiches, computer time or messenger services."

Class Counsel Says To Wells Fargo, That Will Be $1,975,000. Please.

One million nine hundred and seventy-five thousand dollars.  Those are the fees applied for by the lawyers representing the Plaintiff in the almost completely unsuccessful effort to get an injunction against the now completed merger between Wachovia and Wells Fargo. 

Plaintiff has presented a Stipulation and Agreement of Compromise, Settlement and Release to the Court, which includes a provision for the $1.975 million fee award.  Wells Fargo, the acquiror of Wachovia, is not opposing Plaintiff's request.

What are Wachovia's shareholders getting out of the proposed settlement in the Ehrenhaus v. Baker lawsuit?  Not money.  The merger closed, months ago, at the price offered by Wells Fargo and on Wells Fargo's terms, after the Business Court denied Plaintiff's Motion for Preliminary Injunction.

The only arguable "value" for the Wachovia shareholders obtained by the Plaintiff consists of two things.  The first is that Judge Diaz' December 5, 2008 Order held invalid an 18-month "tail" on Wells Fargo's right to vote its 40% interest in Wachovia if the merger wasn't approved.  After that, Plaintiff filed a Proposed Amended Complaint asserting proxy violations.  Although that amendment has never been allowed by the Court, Wachovia made amendments to the Proxy Statement six days after the Proposed Amended Complaint was filed.

The information added by Wachovia to its Proxy Statement was (to me, anyway) completely inconsequential.  If you want to make the comparison yourself, the November 21, 2008 proxy statement is here, and the December 17, 2008 8-K filing containing the supplementation is here.

The Brief filed by Plaintiff in support of the settlement doesn't contain any mention of a legal basis for an award of attorneys' fees.  That might be because there isn't any basis for such an award.  The North Carolina Court of Appeals has held that class counsel is not entitled to fees unless the relief obtained involves some pecuniary benefit to the class. 

That case, coincidentally, also involved Wachovia, and is In re Wachovia Shareholders Litigation, 168 N.C. App. 135, 607 S.E.2d 48 (2005).  That decision overturned an award of fees to class plaintiffs who got relief similar to the invalidation of the tail in the Ehrenhaus case.  So if Wachovia and Wells Fargo opposed a fee petition, it seems almost beyond doubt that they would win, because Plaintiff didn't obtain any monetary benefit for the class.

If the Business Court is going to be willing to consider fees notwithstanding the roadblock of the In re Wachovia Shareholders case, there isn't a bit of explanation in any of the papers filed this week about why counsel should be entitled to $1,975,000.  Nothing about hourly rates, nothing about the number of lawyers who worked on the case, nothing about the work they did, nothing about their out-of-pocket expenses, and no connection between the $1,975,000 and the value of the results achieved for Wachovia's shareholders. (Though the Plaintiff's lawyers did point out that they reviewed 9,500 pages of documents and they took four depositions.)

That's a pretty glaring omission, because there's no information for the Court to enable it to assess the reasonableness of the attorneys' fees. That's a requirement of the approval of a class action settlement, certainly under federal law. See, e.g., Piambino v. Bailey, 610 F.2d 1306, 1328 (5th Cir.) (holding that by summarily approving attorney's fees in an unopposed settlement agreement the district court "abdicated its responsibility to assess the reasonableness of the attorneys' fees proposed under the settlement of a class action, and its approval of the settlement must be reversed on this ground alone."), cert. denied, 449 U.S. 1011, 101 S.Ct. 568, 66 L.Ed.2d 469 (1980); Jordan v. Mark IV Hair Styles, Inc., 806 F.2d 695, 697 (6th Cir. 1986)("Even where there has been no objection to the size of the attorney's fee requested, it is the responsibility of the court to see to it that the size of the award is reasonable.").

Wachovia shareholders who are members of the class will have the right, at a time set by the Court, to object to the terms of the proposed settlement.  By the way, this is proposed to be a non-opt out class of shareholders, which means that the settlement will cover every shareholder of Wachovia. Plaintiff says that's appropriate because this was a "typical merger case" where the claims were "predominately equitable in nature." 

North Carolina Court Of Appeals Reinstates Antitrust Class Action

The courthouse door in North Carolina is now wide open to antitrust plaintiffs making indirect purchaser claims, after the Court of Appeals' decision this week in Teague v. Bayer.  That decision reverses the North Carolina Business Court's dismissal of the case for lack of standing.

For those whose hearts don't start beating faster when reading about antitrust cases, an "indirect purchaser" is "one who purchases a product from some intermediary party rather than directly from the manufacturer." 

Teague alleges that he purchased garden hoses, roofing materials, and other items which contained ethylene propylene diene monomor alastomers (EPDM) sold by the defendant chemical companies to the manufacturers of those items.  Teague, an indirect purchaser of EPDM, claimed that the manufacturers of EPDM had conspired to fix its price.

Indirect purchasers can't make claims under the federal antitrust laws after the Supreme Court's seminal decision in Illinois Brick Co. v. Illinois, 431 U.S. 720 (1977), but these types of claims can be made under state antitrust laws, per Associated General Contractors v. Carpenters, 459 U.S. 519 (1983). North Carolina has allowed such claims since Hyde v. Abbott Laboratories, 123 N.C. App. 572, 473 S.E.2d 680 (1996).

In the lower court ruling, Judge Tennille dismissed the case based on standing grounds, relying on a variation of the factors set out by the Supreme Court in the Associated General Contractors decision for determining standing under the federal antitrust laws.  I summarized the Business Court decision in an earlier post, but this was the gist of what the Business Court considered in dismissing the case nearly two years ago:

the relevant market (it determined that plaintiff was a participant in a collateral market, a factor working against standing), the directness of impact (what the court termed a complex issue involving multiple distribution chains, which weighed against standing), that other indirect purchasers were likely to have been more heavily impacted (having absorbed some or all of the price increase without passing it on to plaintiff), and the daunting and complex nature of the calculation of damages (which the Court found even more complex than the calculation considered in its dismissal of an earlier case, Crouch).

The Court of Appeals reversed, holding that the Associated General Contractors factors don't apply to antitrust claims by consumers.  It acknowledged the Business Court's point on the difficulty that plaintiff would have proving his claims, especially as to causation and damages, but said that these matters would be better addressed at the class certification and summary judgment stages.  Here's the key part of this week's holding:

Defendants contend that courts would have to isolate the effect of the alleged conspiracy on the price of EPDM and rule out the numerous other factors that could cause a price increase in these products such as inflation, prices of other inputs, transport costs, product demand, and market conditions. Thus, a rigorous economic analysis would be required to determine whether increased prices were the result of the alleged price fixing or the result of some other factor.

The U.S. Court of Appeals for the Ninth Circuit has recognized, "Complex antitrust cases . . . invariably involve complicated questions of causation and damages." Forsyth v. Humana, Inc., 114 F.3d 1467, 1478 (9th Cir. 1997). Even if the present case proves to be no exception, that is not sufficient reason to dismiss for lack of standing. As the trial court found, considering several products containing EPDM adds to the complexity of apportioning damages in this case. The analysis described above would have to be conducted for every product at issue in order to accurately calculate Plaintiff's damages. Our Court recognized in Hyde that a suit by indirect purchasers under our antitrust laws would be complex. However, "fear of complexity is not a sufficient reason to disallow a suit by an indirect purchaser, given the intent of the General Assembly to 'establish an effective private cause of action for aggrieved consumers in this State.'" Hyde, 123 N.C. App. at 584, 473 S.E.2d at 687-88 (quoting Marshall, 302 N.C.at 543, 276 S.E.2d at 400). . . .  We therefore hold that Plaintiff has standing to bring this antitrust and consumer fraud action.

The Teague decision also calls into question another Business Court decision, Crouch v. Compton Corp., 2004 NCBC 7 (N.C. Super. Ct. Oct. 26, 2004), in which the Court dismissed an indirect purchaser claim on standing grounds.

 

Possible Settlement Announced In Wachovia-Wells Fargo Merger Litigation

Wachovia and Wells Fargo have probably reached a settlement with the Plaintiff in the class action lawsuit over the merger between the two banks.  The settlement, announced in Wachovia's Form 8-K filed with the Securities and Exchange Commission yesterday evening, will if finalized require approval by the North Carolina Business Court.

The 8-K filing references a Memorandum of Understanding setting out the anticipated terms of the settlement.  The Memorandum wasn't a part of the SEC filing, but the filing says that Wachovia and Wells Fargo will agree not to appeal the (pretty insignificant) win by Plaintiff on the invalidity of the 18 month "tail" in the Merger Agreement, and Wachovia will agree to make additional disclosures in its proxy statement.

The filing says the following:

Wachovia and Wells Fargo agreed not to appeal from the portion of the Court’s Order dated December 5, 2008 that enjoins the 18 Month Tail Provision. Wells Fargo for its part also agreed to waive the enforceability by Wells Fargo of the 18 Month Tail Provision to the extent enjoined by the Court’s Order. Wachovia and Wells Fargo also agreed to make certain additional disclosures related to the proposed merger, which are contained in this Form 8-K. The memorandum of understanding contemplates that the parties will enter into a stipulation of settlement.

The stipulation of settlement will be subject to customary conditions, including court approval following notice to Wachovia’s shareholders. In the event that the parties enter into a stipulation of settlement, a hearing will be scheduled at which the Court will consider the fairness, reasonableness, and adequacy of the settlement. There can be no assurance that the parties will ultimately enter into a stipulation of settlement or that the Court will approve the settlement even if the parties were to enter into such stipulation. In such event, the proposed settlement as contemplated by the memorandum of understanding may be terminated.

The Form 8-K also contains the additional disclosures which Wachovia agreed to make in its proxy statement. There's nothing particularly new or revealing in those.

The picture of the Wachovia sign at the top is from CounterBreak, on Flickr.  

NC Business Court Denies Motion For Preliminary Injunction In Wachovia-Wells Fargo Merger Case

Ehrenhaus v. Baker, 2008 NCBC 20 (N.C. Super. Ct. Dec. 5, 2008)

The North Carolina Business Court has denied Plaintiff's Motion for a Preliminary Injunction with regard to the pending merger between Wachovia and Wells Fargo.

The opinion of Judge Diaz was issued early Friday evening, after the close of business.  The principal holdings of the 28 page opinion, briefly, were that (1) the Wachovia Board of Directors, in approving the merger deal, satisfied its obligations under the Business Judgment Rule in light of the dire economic circumstances and lack of alternatives faced by the Board, (2) the Board complied with North Carolina law in the issuance of new shares of stock to Wells Fargo which gave it 39.9% of the voting control over Wachovia, and (3) the grant of this voting bloc was not coercive to Wachovia's shareholders. 

Judge Diaz also found, however, that the continuation of Wells Fargo's right to vote these shares for an 18 month period if the Wachovia shareholders reject the merger was invalid.  That narrow victory for the Plaintiff won't, however, have any effect on the transaction.

The Court's holdings, in more detail, were as follows:

Business Judgment Rule 

The Board satisfied its responsibilities under the Business Judgment Rule. The Court held that:

this case does not fit neatly into conventional business judgment rule jurisprudence, which assumes the presence of a free and competitive market to assess the value and merits of a transaction. But other than insisting that he would have stood firm in the eye of what can only be described as a cataclysmic financial storm, Plaintiff offers nothing to suggest that the Board’s response to the Hobson’s choice before it was unreasonable.

Op. at ¶¶124-25. As the Court put it:

The stark reality is that the Board (1) recognized that Wachovia was on the brink of failure because of an unprecedented financial tsunami, (2) understood the very real and immediate threat of a forced liquidation of the Company by government regulators in the absence of a completed merger transaction with someone, and (3) possessed little (if any) leverage in its negotiations with Wells Fargo because of the absence of any superior merger proposals.

Against that backdrop, the Board had two options: (1) accept a merger proposal that, although partially circumscribing the shareholders’ ability to vote on its merits, nevertheless still gave the shareholders a voice in the transaction and also provided substantial value; or (2) reject the Merger Agreement and face the very real prospect that Wachovia shareholders would receive nothing.

Pared to its essence, Plaintiff’s argument is that he would have voted to reject the Merger Agreement and take his chances with the government had he been sitting on the Board on 2 October 2008. But it is precisely this sort of post hoc second-guessing that the business judgment rule prohibits, even where the transaction involves a merger or sale of control.

Op. at ¶¶131-33.

The Share Issuance Was Valid

The Wachovia Board complied with North Carolina law in issuing new shares to Wells Fargo which represented 39.9% of the voting stock of Wachovia. Op. ¶¶107-11.  Shareholder approval was not required for the exchange of those shares for Wells Fargo shares, because shareholder approval for a share exchange is required only when the shares exchanged are "already outstanding" shares.  These were not.

The Share Issuance Was Not Coercive

The grant of 40% voting control to Wells Fargo was not coercive, because a majority of Wachovia shareholders were still free to accept -- or reject -- the proposed merger.  As Judge Diaz observed:

while it is certainly true that slightly over 40% of the total votes to be cast on the Merger Agreement have been spoken for, and that Plaintiff and those in his camp face a substantial hurdle in defeating this transaction, a majority of Wachovia shareholders (owning nearly 60% of all Wachovia shares) “may still freely vote for or against the merger, based on their own perceived best interests, and ultimately defeat the merger, if they desire.In re IXC Commc’ns. S’holders Litig., 1999 Del. Ch. LEXIS 210, at *23 (concluding that a vote-buying transaction did not disenfranchise the remaining shareholders where a numerical majority of shareholders were still in position to independently vote against the merger).

Op. at ¶142.  Judge Diaz further observed, with regard to Plaintiff's contention that the Share Exchange had deterred other potential bidders: "the sobering reality is that there are few (if any) entities in a position to make a credible bid for Wachovia that would be superior to the Merger Agreement."  Op. at ¶151.  If Wachovia's Board had not taken the Wells Fargo deal, it faced "the obliteration of most, if not all, of the shareholder equity."  Op. at ¶152.

18 Month "Tail" Held Invalid

In a small, but meaningless victory for the Plaintiff, the Court found invalid the provision of the Merger Agreement providing that Wells Fargo would retain its 40% stake for at least 18 months after the vote of the shareholders.  It entered an injunction against that particular portion of the Merger Agreement.  

This looks like the end of the road for the venerable North Carolina institution known as Wachovia. It seems very unlikely that the merger won't receive the 50% plus 1 vote of the outstanding shares required under North Carolina law for the approval of a merger.

Brief in Support of Motion for Preliminary Injunction

Wachovia Brief in Opposition to Motion for Preliminary Injunction

Wells Fargo Brief in Opposition to Motion for Preliminary Injunction

Reply Brief in Support of Motion for Preliminary Injunction

Wachovia Sur-Reply in Opposition fo Motion for Preliminary Injunction

North Carolina's Attorney General And State Treasurer Duke It Out

One of the unusual things about the litigation over the Wachovia-Wells Fargo merger (which I'm hoping will come to a close soon so this blog won't be all Wachovia all the time) was the flood of letters and emails written to the Court.  Judge Diaz received over 200 pieces of correspondence about the case.

The most high profile of those communications was the one from State Treasurer Richard Moore, who had said in a television interview that the merger amounted to "highway robbery."  Ever since Moore wrote his letter, I've been wondering why he didn't move to intervene in the case.  That would have let him speak directly on behalf of the North Carolina Retirement System (the NCRS), which has lost nearly $20 million on its investment in Wachovia.

A likely answer why that didn't happen came this week from the unlikeliest of places, a decision from Judge Keenan of the Southern District of New York, in a case called Kuriakose v. Federal Home Loan Mortgage CompanyThe opinion dealt with who should be the lead plaintiff in that class action under the Private Securities Litigation Reform Act (the PSLRA), and whether the State Treasurer has the power to seek to be a plaintiff in litigation.

The NCRS was vying in Kuriakose for the lead plaintiff position.  It looked like it had that spot locked up, because the Court determined that it was “the presumptively most adequate plaintiff under the PSLRA.”  This isn't much of compliment, because adequacy turns mainly on the extent of the plaintiff's financial loss.  The NCRS is down more than $18,000,000 on its investment in Freddie Mac stock, per an Affidavit filed by Moore in the case.

But Judge Keenan held that the NCRS couldn't be lead plaintiff, because there was a substantial question whether Moore had the right to initiate litigation on its behalf.  In filings in the Southern District, the North Carolina Attorney General and the State Treasurer had gone to war over the authority of the State Treasurer to initiate the litigation and to retain outside counsel to represent the NCRS.

The battle started in late October 2008, with North Carolina's Attorney General Roy Cooper writing to Moore's counsel questioning Moore's ability to retain counsel and to initiate litigation without his approval and demanding that he immediately withdraw his request for lead counsel status.  Moore's lawyers wrote back, disputing Cooper's assertions, and stating that he was "jeopardiz[ing] the ability of the Treasurer to protect the state employees' retirement funds and to recover the significant losses."

The argument then spilled into the federal court in New York.  Cooper filed a Brief, explaining that while Moore served in various capacities to the various retirement systems which are members of the NCRS, that each of the constituent systems has its own "board of trustees with specific management and fiduciary duties specified by North Carolina law." Brf. at 2.  Cooper asserted that the Treasurer, while a member of some of those boards, "does not have independent authority to prosecute any legal action on behalf of the retirement system.  Such authority lies solely with the respective board of trustees."  Brf. at 4. 

That authority, according to Cooper, had not been sought by Moore from the respective boards.  Cooper further argued, relying on N.C. Gen. Stat. §114-2.3, that the approval of the Attorney General was necessary before the retention of private counsel for a state agency. That statute says that "every agency . . . shall obtain written permission from the Attorney General prior to employing private counsel."

Moore disputed Cooper's statutory interpretation in a Response Brief, and pointed to N.C. Gen. Stat. §147-71, which says that the Treasurer has the power "to demand, sue for, collect and receive all money and property of the State not held by some person under authority of law," as well as N.C. Gen. Stat. §147-69.3(g), which empowers the Treasurer to "retain the services of . . . attorneys . . . possessing specialized skills or knowledge necessary for the proper administration of investment programs created pursuant to this section."

Judge Keenan didn't pounce on the opportunity to resolve this North Carolina state government dispute, but instead held:

Given the uncertainty surrounding the Treasurer’s legal authority to act on NCRS’s behalf, the Court cannot accept his certification that NCRS is willing and able to serve as lead plaintiff. Nor would it be in the class’s interest to have a lead plaintiff likely to become bogged down in state court litigation concerning its participation in this federal securities class action. Therefore, Treasurer Moore’s motion to have NCRS appointed as lead plaintiff is denied. 

This is a thorny and interesting issue of the power of the State Treasurer versus that of the Attorney General.  Maybe it will be resolved one day in a court closer to home.

Preliminary Injunction Hearing In Wachovia-Wells Fargo Merger Lawsuit

There's only one thing for sure after today's preliminary injunction hearing in the lawsuit over the merger between Wachovia and Wells Fargo.  And that is that Judge Diaz displayed remarkable patience after more than three hours of argument from five different lawyers.

My favorite sound bites from the very long hearing (which are not verbatim, but based on my notes and recollection), are as follows:

From Plaintiff's Counsel

Over 42% of the shares are locked up in favor of the merger.  That means that 86.2% have to vote "no," or not vote, to defeat the merger.  It's like having a supermajority requirement to vote down a merger.

 If this deal is so good that it's a no-brainer, let the shareholders vote.  Why do you need draconian deal protection measures if that is the case?

The Share Exchange and the lack of fiduciary out are a toxic combination.

The only terrible thing that will happen if our motion is granted is that Wells Fargo might walk away.  But Wells Fargo never says that they will.  They say they might walk.  Wells Fargo is not going to walk from this deal. 

A bond of $5,000 would be about right.

From Defendants' Lawyers

The companies whose boards did not act quickly enough in this financial crisis -- like Lehman and Washington Mutual -- were wiped out.  The Wachovia board acted quickly. 

The shareholder franchise [to vote to approve a merger] is meaningless if there is no franchise remaining. 

Wachovia could very well be in bankruptcy or receivership if this deal hadn't been approved by the Board.

The Wachovia Board faced a stark choice between illiquidity and receivership, on one hand, and Wells Fargo on the other.

Wachovia did not have other options.  These were the best terms that could be negotiated.

It is wishful thinking that another suitor will appear, or that the government will come along and bail out Wachovia.

Most Humorous Exchange

Judge Diaz: Wells Fargo relies on the IXC case from Delaware, where Vice Chancellor Steele said that if 40% of the vote was locked up, that still wasn't a majority.  It was still possible for the shareholders to reject the transaction.

Plaintiff's Counsel: I'm very familiar with that case, I worked on it.

Judge Diaz: Sounds like you lost.

Plaintiff's counsel made it clear that Plaintiff is not requesting an injunction against the merger.  The relief sought is an invalidation of the Share Exchange which gave Wells Fargo nearly 40% of the vote, and a requirement that Wachovia's Board negotiate a broader fiduciary out from the Merger Agreement.  Plaintiff wants a vote on the merger, he just doesn't want Wells Fargo to be able to vote its shares.

At the end of the hearing, Judge Diaz said that he would take the case under advisement.  He did not say when he would rule.  The ruling will certainly be before the shareholders meeting, which has been set for December 23rd. 

Is Wachovia's Share Exchange With Wells Fargo Invalid?

Can it be that the Share Exchange Agreement, which gave Wells Fargo 40% of the voting control over Wachovia stock, is invalid?  That's exactly what the  Plaintiff in the shareholder class action asking for an injunction regarding the Wachovia-Wells Fargo merger is saying in his Reply Brief filed yesterday.

In this new argument -- not raised in Plaintiff's opening Brief -- Plaintiff says that a share exchange, under North Carolina law, requires the approval of the shareholders, and that this approval wasn't obtained.  If Plaintiff is right, the substantial voting power obtained by Wells Fargo in connection with that Agreement would be invalid.

Plaintiff is certainly right about the need for approval of a share exchange under North Carolina law.  Section 55-11-03 of the General Statutes says that:

After adopting a . . . share exchange, the board of directors . . . of the corporation whose shares will be acquired in the share exchange, shall submit the . . . share exchange for approval by its shareholders.

N.C. Gen. Stat. ¶55-11-03(a). If this is the type of share exchange which is subject to the statute in the first place (Wachovia could just as easily have sold these shares to Wells Fargo for $10, and not exchanged shares, so it may not be), this will be a significant issue.

The won't be the end of the inquiry, however, because not every share exchange requires shareholder approval.  The North Carolina statute requires approval only for a forced, involuntary transaction  The commentary to Section 55-11-02 says that:

This section introduces a concept that is new to North Carolina, i.e., a share exchange, which is defined as a transaction by which a corporation becomes the owner of all the outstanding shares of one or more classes of another corporation by an exchange that is compulsory on all owners of the acquired shares.

The statute specifically states that "this section does not limit the acquisition of all or part of the shares of one or more classes or series of a corporation through a voluntary exchange or otherwise."  N.C. Gen. Stat. §55-11-02(d).

Apart from being dictated by the severe financial pressures which Wachovia faced, the share exchange would seem to be voluntary.  If that's the case, it didn't require shareholder approval.

[Update: On Sunday, November 23rd, Wachovia filed a Motion for leave to file an additional Brief addressing this issue.  The  Proposed Brief was attached to the Motion.  In addition to arguing that the statute does not apply to a voluntary transaction, Wachovia argues in the new Brief that the statute does not apply to an issuance of new shares.  I wrote about the process by which these shares were issued in an earlier post.]

 

Wachovia Shoots Back: Says Its Board Of Directors Fulfilled Its Fiduciary Duties In Negotiating Merger With Wells Fargo

Wachovia has filed its Brief in opposition to Plaintiff's Motion for Preliminary Injunction, laying out the case why its Board of Directors fulfilled their fiduciary duties in agreeing to the Merger with Wells Fargo.

The principal factual support for Wachovia's Brief is the Affidavit of Dona Davis Young, a member of the Wachovia Board of Directors, which relies heavily on the Form S-4 filed by Wells Fargo on October 31st, which discloses the background for the Merger.

Young's Affidavit lays out a day by day chronology of the downward financial spiral in which Wachovia found itself over the months of September and October 2008, and concludes with the approval of the Merger Agreement on October 3rd.

The Affidavit emphasizes that if the Board hadn't voted to approve the Merger, "it was likely . . . that Wachovia would not be able to fund normal banking activities and thus would again face the very real prospect of FDIC receivership."  Young Aff. ¶9.

As Young describes the situation, it was essential to sew up the deal with Wells Fargo in order to obtain the cash needed to sustain operations pending the closing of the Merger:

It was important that Wells Fargo have assurance that the merger could close in order to have an incentive to establish interim funding arrangements with Wachovia, and it was equally important that the financial markets and the Federal Reserve have the same assurance so that Wachovia could obtain funding from these sources as well. Absent the ability to obtain such funding, Wachovia faced receivership, which would have destroyed the value of Wachovia as a business franchise and left its shareholders with worthless stock.  Shortly after the merger agreement was signed and the merger was announced, Wachovia was able to obtain the financing it needed from Wells Fargo and from other sources of funding.

Young Aff. ¶11.

On the key issue of the Share Exchange Agreement which gave 39.9% voting control over Wachovia to Wells Fargo, the Young Affidavit says that Wells Fargo had initially demanded a 50% stake.  Young says that Wachovia negotiated that percentage down to 39.9%. Young Aff. ¶10. (It is a bit unsatisfying that Young's "testimony" on this pivotal point is really double hearsay -- she says in ¶10 the Board was "informed" by an unidentified person that someone, also unidentified, acting on behalf of Wachovia had engaged in this sharp negotiation with Wells Fargo).

Wachovia relied on a Delaware Chancery opinion from 1999, In re IXC Communications, Inc. Shareholders Litig., 1999 WL 1009174 (Del. Ch. 1999) which held that giving away 40% voting control doesn't lock up a merger and which emphasized the power of the remaining 60%:

Here, an admittedly independent majority of IXC's shareholders (owning nearly 60% of all IXC shares) may still freely vote for or against the merger, based on their own perceived best interests, and ultimately defeat the merger, if they desire. The defendants have not, in fact, 'locked up' an absolute majority of the votes required for the merger through the GEPT deal. Plaintiffs themselves, notwithstanding vigorous argument questioning the fairness of the GEPT deal, tacitly admit that the vote-buying agreement does not make the outcome of the vote a foregone conclusion. They can only say that the GEPT deal 'almost completely lock[s] up the vote-thus giving shareholders scant power to defeat the Merger...'  'Almost locked up' does not mean 'locked up,' and 'scant power' may mean less power, but it decidedly does not mean 'no power.'

Wachovia makes much of the absence of a material adverse change provision in the Merger Agreement, stating:

A few days after the Merger Agreement was executed, Wachovia posted a loss in excess of $20 billion for the third quarter of 2008 -- but faced no risk that Wells Fargo could terminate the Merger Agreement because the Agreement contains no material adverse change provision.  Wachovia obtained exceptional value in return for the so-called 'deal protection provisions' afforded to Wells Fargo.

Wachovia Brf. 17-18.

As it's spun out by Wachovia, one could argue that Wachovia, near financial death, out-negotiated Wells Fargo on this deal.  The Board got $7 per share for the Wachovia shareholders no matter how bad thing get, short of bankruptcy, insolvency, or a receivership.  Wachovia Brf. 15 n.7.  That's pretty impressive -- "exceptional value" in Wachovia's words -- considering the dire circumstances painted by the papers and the continuing implosion of the financial markets.

Plaintiff's reply brief is due Friday (November 21), then there's a hearing Monday (November 24).

North Carolina State Treasurer Says Wachovia-Wells Fargo Merger is "Highway Robbery"

This morning on CNBC, North Carolina State Treasurer Richard Moore referred to Wells Fargo's pending acquisition of Wachovia as a "shotgun marriage," "highway robbery," and as not being fair to Wachovia shareholders.

The State Treasurer has a significant interest in this merger.  The North Carolina Retirement System was holding 2,275,664 shares of Wachovia stock as of June 30, 2008, which were then worth $35,341,062, per the State Treasurer's Annual Report.  At the $7 per share to be paid by Wells Fargo, that investment has lost nearly $20 million in value since June.

Moore said in a follow-up interview today with the Charlotte Observer that the shares held by the Retirement System will vote against the merger, and that he will send a letter supporting the shareholder lawsuit seeking to enjoin the merger.  He stated “I hope that the shareholders of Wachovia will vote against this deal, and I hope that every politician that North Carolina has at the state and federal level works as hard as they can for an independent Wachovia.” 

He'll presumably send that letter directly to Judge Diaz, who is presiding over the lawsuit brought by Irving Ehrenhaus.  Moore won't be the first prominent citizen to do so, and he also won't be the first to use the word "robbery" to describe the pending deal. [Update: Moore did send his letter, on November 12, 2008].

The first person I know of to do that was John Georgius, who was President of First Union National Bank until 1999, two years before First Union became the surviving entity in its merger with Wachovia.  Georgius has already written a letter to Judge Diaz, expressing his objection to the merger, and stated that:

TO ALLOW THIS ACTION TO STAND WOULD CONDONE AND SUPPORT THE LARGEST 'BANK ROBBERY' IN OUR NATION'S HISTORY!

The capital letters are in the original.

And in another communication to Judge Diaz, William B. Greene, Jr., the Chairman of Bank of Tennessee, said that the only reason the Wachovia Board agreed to the merger was that they had been "beaten down and buggy whipped by the Regulators."

These letters, whether written or unwritten, obviously aren't evidence of anything probative to the legal issues raised by the shareholder class action.  But they certainly display a public sentiment that is strongly against this transaction, and make one wonder whether this deal would get the approval of  the majority of Wachovia shareholders if Wells Fargo didn't already have 40% of the vote locked up.

Update On The North Carolina Lawsuit Seeking To Block The Wachovia-Wells Fargo Merger

If you are following the shareholder class action seeking to enjoin the Wachovia-Wells Fargo merger, Plaintiff filed his Brief in support of his Motion for Preliminary Injunction yesterday. 

The focal point of Plaintiff's argument is that the deal protection devices in the Wachovia-Wells Fargo Merger agreement were too hastily negotiated by the Wachovia board, and that the Board violated its fiduciary duties in agreeing to them.  As Plaintiff puts it, "the Board rolled over and accepted all of these provisions 'in derogation of their unyielding fiduciary duties.'" Brf. at 22. 

Wachovia's response to Plaintiff's Brief is due November 17th; and Plaintiff's reply is due November 21st.  A hearing is set for 2:00 p.m on November 24th.

 

North Carolina Business Court Agrees To Decide Motion To Enjoin Wachovia-Wells Fargo Merger On An Expedited Basis, But Denies Expedited Discovery

The North Carolina Business Court today denied Plaintiff's request for expedited discovery in the putative shareholder class action seeking to enjoin the Wachovia-Wells Fargo Merger, but agreed to decide Plaintiff's Motion for a Preliminary Injunction on an expedited basis, setting a hearing three weeks from today. (I wrote about the Motion for Expedited Discovery in a previous post.)

After discussion of the appropriate standard for ruling on a motion for expedited discovery, Judge Diaz focused in his 10 page Order on Plaintiff's burden on the merits to show that Wachovia's Board of Directors had breached its fiduciary duties, and the deference to be given the Wachovia Board under North Carolina's Business Judgment Rule.

The Court described the Business Judgment Rule as a "high hurdle," and one which Plaintiff "may well be unable to overcome . . . particularly where (1) Wachovia's board asserts that quick action on the Merger Agreement was necessary to avoid a government-directed liquidation of the Company, and (2) Plaintiff presents no evidence of a competing offer for the Company."  Op. at ¶43.

Judge Diaz then observed that the Plaintiff had stated what he described as "colorable claims":

Plaintiff appears to have alleged colorable claims as to his contentions that (1) the Share Exchange transferring a nearly 40% voting bloc to Wells Fargo in advance of a vote on the Merger Agreement is unduly coercive, and (2) the limited “fiduciary out” clause contained in the Merger Agreement violates the Wachovia board’s continuing responsibility to exercise its fiduciary duties. See generally First Union Corp., 2001 NCBC 9 ¶¶ 81, 89 (stating that (1) a relevant test as to shareholder coercion is whether the vote will “‘be a valid and independent exercise of the shareholders’ franchise, without any specific preordained result which precludes them from rationally determining the fate of the proposed merger,’” and (2) courts should invalidate merger plans that “purport to restrict a board’s duty to fully protect the interests of the corporation and its shareholders”).

Op. at ¶44.  Judge Diaz also held that Plaintiff had "present[ed] a colorable claim as to irreparable harm."  Op. at ¶45.

Judge Diaz held, however, that expedited discovery was not necessary because "most (if not all) of the facts pertinent to resolving Plaintiff's request for preliminary injunctive relief are matters of public record."  Op. at ¶48.  He described those facts as follows:

(1) A mere two weeks before the Company’s demise, Wachovia’s President and CEO was insisting publicly that Wachovia “had a great future as an independent company;”

(2) In the ensuing period, Wachovia’s share price tumbled from $18.75 to $1.84;

(3) Wachovia’s board faced a crisis of historic proportions when it met to consider and approve the Merger Agreement;

(4) Wachovia’s board took very little time to digest and act upon the Merger Agreement;

(5) The Share Exchange gives Well Fargo almost 40% of the vote in advance of a decision by the Company’s shareholders as to approval of the Merger Agreement;

(6) The “fiduciary out” clause in the Merger Agreement prohibits the Wachovia board from walking away from the Wells Fargo deal should a better deal materialize, but instead only allows the board in that instance to make no recommendation to the shareholders, with an explanation;

(7) Should the Merger Agreement be approved by the shareholders, three members of the Wachovia board will be invited to join the Wells Fargo board;

(8) All of the agencies with regulatory authority over the Merger Agreement have approved it; and

(9) Following approval of the Merger Agreement by Wachovia’s board, no other entity has made a bid to purchase the Company.

Op. at ¶49.

The Court gave short shrift to the argument by Plaintiff that the Share Exchange Agreement (which gave Wells Fargo nearly 40% of voting control over Wachovia) was invalid under the Emergency Economic Stabilization Act of 2008.  In a footnote, Judge Diaz picked up the language of the Act which says that an agreement that "directly or indirectly . . . affects, restricts, or limits the ability of any person to offer or acquire . . . all or part of any insured depository institution" is unenforceable against an acquirer.  He held that Wells Fargo, the only acquirer on the horizon for Wachovia, "obviously has no interest in having the Share Exchange declared unenforceable."  Op. at n.7.

The Court set the following schedule for resolution of the Motion for Preliminary Injunction: Plaintiff's Brief and supporting materials are due November 10th; Defendants' responsive papers are due November 17th; and Plaintiff's reply is due November 21st.  A hearing is set for 2:00 p.m on November 24th.  

[If you read footnote 10 of Judge Diaz's opinion, he mentioned this blog and referred to me as a "prolific North Carolina business law blogger."  I appreciated that.  My dictionary defines "prolific" as "marked by abundant inventiveness."]

Plaintiff Seeking Expedited Discovery In Lawsuit Over Wachovia-Wells Fargo Merger

The Plaintiff in the would be class action seeking to enjoin the Wachovia and Wells Fargo merger is pursuing his effort to obtain expedited discovery.  The parties have staked out the broad outlines of the claims and defenses in their briefs on that Motion. Plaintiff’s Brief is here, Wachovia’s Brief, filed yesterday afternoon, is here.

The essence of Plaintiff's argument is that the $7 per share offered by Wells Fargo in the Merger Agreement is an inadequate price, and that the Wachovia Board of Directors violated its fiduciary duty by approving the merger and by entering into the Share Exchange Agreement that gave Wells Fargo nearly 40% of the outstanding voting stock of Wachovia.

The Claim Of Inadequate Price

On the claim that the price being paid by Wells Fargo is inadequate, Plaintiff argues that Wachovia stock was trading at $10 per share on September 26, 2008, before the bailout bill was passed, and that the effect of the bailout is to make Wachovia more valuable because the federal government will purchase its non-performing assets. 

As Wachovia points out (in its Brief at page 4 n.2), there is no certainty that it would be entitled to federal funds, which are to be allocated in the discretion of the Treasury. 

Wachovia says, based on the previously presented Affidavit testimony of Robert Steel, that the "stark choice" for Wachovia was either to accept the Wells Fargo offer or to enter receivership. (Wach. Brf. at 4)

Fiduciary Duty Claim

Plaintiff’s claim of violation of fiduciary duty is based on the argument that the Share Exchange Agreement has rendered the shareholder vote on the merger "essentially meaningless," and precludes any competing bid from being made. 

Plaintiff contends that the Share Exchange is invalid under the Emergency Economic Stabilization Act of 2008.  He points to the Section 126(c) of the Act, which reads:

UNENFORCEABILITY OF CERTAIN AGREEMENTS.

No provision contained in any existing or future standstill, confidentiality, or other agreement that, directly or indirectly

(A) affects, restricts, or limits the ability of any person to offer to acquire or acquire,

(B) prohibits any person from offering to acquire or acquiring, or

(C) prohibits any person from using any previously disclosed information in connection with any such offer to acquire or acquisition of,

all or part of any insured depository institution, including any liabilities, assets, or interest therein, in connection with any transaction in which the [FDIC] exercises its authority under section 11 or 13, shall be enforceable against or impose any liability on such person, as such enforcement or liability shall be contrary to public policy.

Wachovia launched a full frontal attack in response to the assertion that there is another potential buyer or merger partner:

Plaintiff's application to this Court is based on the unsubstantiated and illogical notion that Wachovia has alternatives to the Wells Fargo merger and that somehow shareholders are being prevented from taking advantage of these supposedly superior opportunities.  This makes no sense.  It is now more than a month since Wachovia first announced that it was available for a transaction, and no offers other than those by Citigroup and Wells Fargo have been made.  If any capable third party was interested in making such an offer, it could have done so. 

Wach. Brf. at 5.  Wachovia also says that "any bank large enough to consider acquiring Wachovia knows how to formulate and communicate such an offer." (Wach. Brf. at 10-11).

The parties are also at odds over the significance of the "fiduciary out" in Section 6.3 of the Merger Agreement.  Plaintiff says that the fiduciary out does not permit Wachovia to terminate the Agreement in the event of a superior offer, but instead requires it to present the merger to the shareholders for a vote without a recommendation. 

On the point of motive, Plaintiff contends that the motive for this alleged breach of duty was to obtain "lucrative 'golden parachutes'" for Wachovia's executive team and for them to retain employment with the merged bank. Wachovia responded that the only management employee who voted to approve the merger is Robert Steel, who has publicly stated that he will not take a position with the merged entity.

Wachovia's Other Arguments

Wachovia stresses the need to close its transaction, and says that the consummation of the merger is "crucial to the stability of the United States banking system" in the judgment of the Federal Reserve.  Wach. Brf. at 2. 

The Charlotte bank says that Plaintiff can have no hope of posting a bond even it it obtains injunctive relief.  As Wachovia puts it:

it is inconceivable that this shareholder could possibly post a bond for the potential costs and damages resulting from obtaining a wrongful injunction against a multi-billion merger that is critical to the stability of the financial system

Wach. Brf. at 3. That would be quite a bond.

Business Court Allows Confidential Settlement Of Individual Claims In Class Action Suit

Thomas Cook Printing Co. v.  Subtle Impressions, Inc.2008 NCBC 17 (N.C. Super. Ct. Oct. 24, 2008).

On October 24th, the North Carolina Business Court approved the Plaintiff's withdrawal of class action claims under the Federal Telephone Consumer Protection Act (which prohibits the transmission of "unsolicited advertisements" to fax machines) and a settlement of the Plaintiff's individual claims.

The Court's approval was necessary as a result of the opinion of the North Carolina Court of Appeals in Moody v. Sears Roebuck and Co., 664 S.E.2d 569 (N.C. App. 2008), and Judge Tennille's recent Order interpreting that ruling.

What's interesting about the opinion is that the Court permitted counsel for parties to submit the documents supporting the settlement in camera.  It also permitted the parties to keep confidential the terms of the settlement with the individual Plaintiff.

Although Judge Diaz recognized that the settlement papers filed with the Court were "public records and, thus, are presumed to be available for public inspection pursuant to the North Carolina Public Records Act," he reasoned as follows in agreeing to keep them confidential:

In Virmani v. Presbyterian Health Servs. Corp., 350 N.C. 449, 463, 515 S.E.2d 675, 685 (1999), the North Carolina Supreme Court held that  “a trial court may, in the proper circumstances, shield portions of court proceedings and records from the public[.]” 

In the absence of the class action allegations, the parties "could have settled their dispute confidentially and filed a voluntary dismissal without any oversight from this Court." 

The amount being paid, as described by Judge Diaz, was "relatively insubstantial, particularly when viewed in the context of the high-dollar business disputes typical of this Court’s docket."

The case did not implicate substantial public policy concerns.  There had not been an interest voiced by the media or the public in the Plaintiff's allegations.

Maintaining the confidentiality of the settlement was in the best interests of justice, in the absence of any prejudice to the putative class members or the public at large.

The Business Court has in the past refused to certify class actions under the Federal Telephone Consumer Protection Act, in Blitz v. Agean, Inc., 2007 NCBC 21 (N.C. Super. Ct. June 25, 2007) and Blitz v. Xpress Image, Inc., 2006 NCBC 10 (N.C. Super. Ct. Aug. 6, 2006).  The Agean case is  on appeal to the North Carolina Court of Appeals and is fully briefed.

 

Shareholder Class Action Filed In North Carolina Business Court To Enjoin Wachovia-Wells Fargo Merger

The first Complaint I'm aware of seeking to enjoin the merger between Wachovia and Wells Fargo has been filed in North Carolina and designated to the North Carolina Business Court.

In the Notice of Designation to the Business Court of the case, Ehrenhaus v. Baker, the Plaintiff describes his claim as follows: 

"This is a class action on behalf of the public stockholders of Wachovia Corporation (“Wachovia” or the “Company”) in connection with a proposed acquisition of Wachovia by Wells Fargo & Company (“Wells Fargo”) in breach of defendants’ fiduciary duties (the “Merger”).  Plaintiff alleges that he and the other public stockholders of the Company’s common stock are entitled to enjoin the Merger, or alternatively, to recover damages in the event the Merger is consummated.  Plaintiff alleges that the Merger provides Wachovia’s public shareholders with inadequate consideration and is the product of a severely flawed sales process. Wachovia’s Board of Directors (the “Board”) has essentially disenfranchised the voters of Wachovia and locked up the vote in favor of the Merger when, in connection with the Merger Agreement, Wachovia and Wells Fargo entered into a share exchange agreement under which Wachovia is issuing Wells Fargo preferred stock that votes as a single class with Wachovia’s common stock representing 39.9 percent of Wachovia’s voting power."

Ehrenhaus has also filed a Motion for Preliminary Injunction and a Motion for Expedited Proceedings.  The case has been assigned to Judge Albert Diaz. 

Here's a little bit of background on the issue raised by the lawsuit regarding the shares to be issued by Wachovia to Wells Fargo:  In connection with their Merger Agreement , Wachovia and Wells Fargo entered into a Share Exchange Agreement, which provides that Wachovia will issue 10 shares of its "Series M, Class A Preferred Stock" to Wells Fargo in exchange for 1,000 shares of Wells Fargo Common stock.

What is "Series M, Class A Preferred Stock"?  The Form 8-K filed by Wachovia in connection with the Share Exchange Agreement says each one of those shares of stock represents 3.99% of the aggregate voting power represented by the shareholders of Wachovia common stock.  So, those ten shares have 39.99% of the voting power of Wachovia shareholders.

The effect of the issuance of those "super shares" to Wells Fargo will be to essentially to lock up the deal for Wells Fargo.  No other suitor for Wachovia can hope to obtain the necessary approval for an alternative merger deal while Wells Fargo holds a 40% voting bloc.  The lock up effect of the share issuance seems to be the main thrust of the Ehrenhaus Complaint.

It appears, however, that Wachovia complied with regulatory and statutory requirements regarding the issuance of those shares.  The New York Stock Exchange has a Shareholder Approval Policy which says that:

(c) Shareholder approval is required prior to the issuance of common stock, or of securities convertible into or exercisable for common stock, in any transaction or series of related transactions if:
(1) the common stock has, or will have upon issuance, voting power equal to or in excess of 20 percent of the voting power outstanding before the issuance of such stock or of securities convertible into or exercisable for common stock; or
(2) the number of shares of common stock to be issued is, or will be upon issuance, equal to or in excess of 20 percent of the number of shares of common stock outstanding before the issuance of the common stock or of securities convertible into or exercisable for common stock.

The NYSE Rules provide for an exception when a delay in obtaining stockholder approval "would seriously jeopardize the financial viability of the enterprise," if the Audit Committee of the listed company expressly approves reliance on the exception.  The Rules further require that a company relying on this exception must mail a letter to its shareholders not less than 10 days before the securities will be issued, informing them of its intention to issue the securities without a shareholder vote.

Wachovia invoked the exception and sent the required letter to its shareholders, so it has complied with this particular requirement.

What about the North Carolina Business Corporation Act, which applies because Wachovia is a North Carolina corporation?  The Board of Directors of Wachovia has the power under North Carolina law, if the articles of incorporation so provide, to "determine, in whole or part, the preferences, limitations, and relative rights (within the limits set forth in G.S. 55‑6‑01) of (1) any class of shares before the issuance of any shares of that class or (2) one or more series within a class before the issuance of any shares of that series."  N.C. Gen. Stat. § 55‑6‑02.  The Articles of Incorporation of Wachovia presumably grant the Wachovia Board this authority and it was therefore presumably entitled to issue "Class M" shares with supervoting powers.

It will be interesting to see what happens with this case, which may be the first of many shareholder class actions over this merger.

 

The Practice Of "Litigation Funding" Gets A Chilly Reception From The North Carolina Court Of Appeals

Today, the North Carolina Court of Appeals allowed a plaintiff to proceed with her lawsuit that "litigation funding," the practice by which private firms make advances to plaintiffs involved in litigation in exchange for a substantial return in the event of a successful result, violates the law of North Carolina. Reversing the trial court, the Court of Appeals let stand claims for usury, unfair and deceptive practices, and a violation of the North Carolina Consumer Finance Act. The Court threw out, however, claims that this practice constitutes "unlawful gaming" and champerty. 

In the case of Odell v. Legal Bucks, LLC, the litigation funder had advanced Ms. Odell $3,000 for her motor vehicle accident claim.  Ms. Odell ultimately settled her claim for $18,000, but found that the terms of her agreement required her to pay Legal Bucks $9,582, or more than triple the advance that she had received. Ms. Odell, certainly unhappy at having to give up more than half of her recovery, then sued Legal Bucks, seeking class certification on her multiple claims.

The principal argument of Legal Bucks against the usury claim was that Ms. Odell was not under an absolute obligation to repay the money she had been advanced, and that the arrangement between them was therefore not usurious.  The Court recognized that the litigation funding was not a "loan," because a "loan" carries the requirement of an unconditional obligation to repay principal, but held that N.C. Gen. Stat. §24-1.1 also covers "advances," which do not have the same requirement. The Court found that the agreement between the parties demonstrated an understanding that the principal of the advance would be returned, meeting a key element of the test for usury. The Court further found that there was no dispute "that the rate of interest provided for in the Agreement substantially exceeds that permitted" by the statute, and that Legal Bucks had "intentionally entered into a contract to receive a greater amount of interest that that allowed" by law.

Since Legal Bucks wasn't licensed under the Consumer Finance Act, that made out a violation of the Act, as did its violation of the usury statute. The unfair and deceptive practices claim also went forward, over Legal Bucks' objection that the terms of the agreement had been fully disclosed to the plaintiff. The Court held that:

 "violations of statutes designed to protect the consuming public and violations of established public policy may constitute unfair and deceptive trade practices." In this regard, we note that it is a "paramount public policy of North Carolina to protect North Carolina resident borrowers through the application of North Carolina interest laws." N.C. Gen. Stat. § 24-2.1 (2003). [The] [d]efendants' practice of offering usurious loans was a clear violation of this policy.

 

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New Business Court Rules Of The Road For Pre-Certification Dismissals Of Class Actions

Moody v. Sears, Roebuck & Co., 2008 NCBC 14 (N.C. Super. Ct. August 6, 2008)

The North Carolina Business Court has set out an explicit set of procedures to be followed when parties take a voluntary dismissal of a class action before a decision on class certification. 

This Order yesterday by Judge Tennille in the Moody case comes following the Court of Appeals decision in that case last month, which reversed the Business Court and held that full faith and credit should have been accorded to an Illinois court's approval of a nationwide class action.

The new opinion from the Business Court requires that counsel taking a pre-certification dismissal of a class action must file a statement which includes:

(1) the reason for dismissal, (2) the personal gain received by the plaintiffs in any settlement, (3) a statement of any other material terms of the settlement, specifically including any terms which have the potential to impact class members, (4) a statement of any counsel fees paid to plaintiff’s counsel by defendants, and (5) a statement of any agreement by plaintiff(s) restricting their ability to file other litigation against any defendant. 

Op. at ¶2.  In addition, counsel for the Plaintiff is required to "file a statement either detailing any potential prejudice to putative class members or representing to the Court that no prejudice exists."  Judge Tennille indicated that the Court would "be particularly concerned about issues related to tolling of the statute of limitations."

In a case involving the dismissal of a North Carolina class action resulting from the approval of a nationwide class action settlement in another state, which was the situation in Moody, there is a different requirement.  Then:

counsel shall file with the Court a copy of the order approving settlement and sufficient information concerning the notice provisions so that the Court can ascertain if jurisdictional and due process issues have been addressed by the foreign court and whether North Carolina citizens have been represented in the proceeding. 

Op. at ¶4.  Judge Tennille indicated that this filing would permit the court to "raise any concerns with the foreign court," and that "once those concerns have been addressed, the foreign court’s order will be entitled to full faith and credit whether or not this Court would have granted approval of the settlement."  Op. at ¶4.  (It doesn't appear that in a case involving an out-of-North Carolina settlement that the statement regarding the reasons for the dismissal is necessary.)

In all cases, the Business Court will require a final accounting of the distribution of any settlement proceeds and attorneys fees.  This is not a new requirement of the Court.  As Judge Tennille stated, "it has been the practice of this Court to require class representatives to file and publish a copy of the final accounting detailing the amount of money (or coupons) actually received by the class, the amount of administrative fees, and the amount of attorney fees received."  Op. at ¶6.

The Court noted two reasons for the requirement of an accounting.  First, the Court said that this would "promote greater transparency that will fill the 'informational black hole' concerning final distributions and make administration of class actions more efficient and effective and thus more beneficial to class members."  Op. at ¶8.

Second, the Court said it would use this information for other purposes, including an assessment of the qualifications of class counsel:

This Court would add to that list of benefits from transparency, the benefit of judges being able to assess the past performance, abilities and commitment of those lawyers who seek to be class counsel in other cases. A history of final results in other cases would also alert judges to scrutinize settlements proposed by defendants who have settled their class action in ways that resulted in no benefits to class members. This Court can think of no reason why the final results should not be made known to the Court and the citizens affected. 

Op. at ¶9.  The accounting information will be available on the Business Court's website. 

The accounting in Moody is that the members of the class in North Carolina received $66 in cash and coupons, the nationwide class members received $2,402 in cash and coupons, and Plaintiff's counsel received $1,100,000 in cash and coupons.  Notwithstanding its reversal of the Business Court's opinion of the original decision in Moody (which you can read about here) the Court of Appeals expressed concern about the adequacy and fairness of the Illinois settlement, stating "we share the trial court's serious concerns regarding the final accounting in the . . . settlement."

 

Class Action Certified Against Blue Cross Blue Shield Of North Carolina

On August 5th, in Hamm v. Blue Cross and Blue Shield of North Carolina, Judge Jolly certified a class action against health insurer Blue Cross.  The class will consist of Blue Cross members who claim that their medical providers charged them more than the amount the providers had contracted with Blue Cross to charge for their services, after the members exceeded certain benefit maximums.  According to Plaintiff's Brief (at bottom), the class will have thousands of members.

The Court rejected a number of arguments made by Blue Cross as to why a proper class did not exist and why the class representative would not adequately represent the class.

Hamm was enrolled in a plan with Blue Cross that provided for "in-network providers" to charge a contracted-for amount for their services, referred to as the "allowed amount."  Hamm's contention was that the plan provided that Hamm would not be responsible for any charge over the allowed amount.

In Hamm's situation, however, she hit the "benefit period maximums," which included a cap on the dollar amount that a member could receive in paid benefits from Blue Cross for certain services.  She claimed that the in-network providers then began charging her at full rates, not the lower, negotiated-for allowed amount.  Hamm disputed that the plan permitted these additional charges, which led to her lawsuit.

The main arguments against class certification made by Blue Cross, and rejected by Judge Jolly, were as follows:

Blue Cross argued that the class had no injury.  As the insurer interpreted its agreement, in-network providers were entitled contractually to charge more than the allowed amount when a member exceeded the number of visits allowed by her policy (the "visit maximum").  But when a member exceeded the monetary amount that Blue Cross would pay for covered services (the "benefit maximum"), as opposed to the visit maximum, Blue Cross said that a provider was required to charge only the allowed amount, and it disputed that it had allowed the practice of a higher charge in those circumstances.  The Court wrote that there was "pragmatic appeal" to this argument (Op. at 12 n.8), but said that the construction of the contract was "not as clear to the court as it is to Defendant," and found these were both "merit-based defense(s) not properly before the court at this stage. . . ."  (Op. at 11 and 12). 

The insurer also argued that a member would have no claim unless he or she had actually paid an amount over and above the allowed amount.  The Court rejected this argument, stating that a class member would have at least a claim for nominal damages for a breach of the contract, and noting that Plaintiff sought a declaration regarding the future rights of the class members, which would not require a showing of any actual damages.

Blue Cross argued that the Court would have to make "extensive individualized inquiries" whether a class member had actually paid more than the allowed amount and whether administrative remedies had been exhausted.  The Court held that these inquiries did not predominate over the common liability issue.  It said that there would be "uniform, mechanized and documented evidence" of these matters given the nature of Blue Cross' record-keeping.  (Op. at 12 n.9).

On the point of adequacy, Blue Cross argued that the Plaintiff was subject to unique defenses regarding the amounts she claimed to have been charged over the allowed amount.  Blue Cross contended that the only charges to Plaintiff over the allowed amount had come from an out-of-network provider, not an in-network provider, and that the services received were not a "covered service."  The Court disagreed that these arguments precluded class certification, stating that "the focus of class certification 'is properly on the typicality of the plaintiff's claim as it applies to the general liability issues [and] not on the plaintiff's ultimate ability to recover.'"  (Op. at 15).

The Court concluded its analysis by ruling that a class action was a superior method for adjudicating the claims before it.  It held "the controversy is over a contract of insurance that is standardized over hundreds of thousands of North Carolinians.  The interpretation of such standardized agreement on a class-wide basis will provide certainty and prevent inconsistent adjudications."

My partners Jennifer Van Zant and Charles Marshall represent Blue Cross.

Brief in Support of Motion for Class Certification

(All other briefs were filed under seal)

 

Full Faith And Credit And Class Actions

Today, in Moody v. Sears Roebuck & Co., the North Carolina Court of Appeals reversed a decision of the Business Court which had refused to approve the dismissal with prejudice of a North Carolina class action.  The Business Court had found that the settlement of the case, even though it had been approved by an Illinois court, was inadequate for the North Carolina class members. 

This is an interesting case (and a long post), but the Reader's Digest version is that: (a) Rule 23 of the North Carolina Rules of Civil Procedure doesn't require court approval before a class action which has not yet been certified is dismissed, but (b) a court nevertheless has the authority to conduct a review of a pre-certification dismissal and should exercise it, and (c) a court's review of a foreign court's approval of a class action settlement is limited to a consideration of whether the foreign court addressed issues of jurisdiction and due process.

The core of Judge Tennille's May 2007 opinion in the Business Court (summarized here) was that there was a "shocking incongruity between the class benefit [of about $2400 to the entire nationwide class] and the fees afforded counsel and the representative [of more than $1 million]."  He held that this "leave[s] the appearance of collusion and cannot help but tarnish the public perception of the legal profession."

The class notice and claims process agreed to by Moody and Sears also came under Judge Tennille's fire.  He held that the class notice was poorly distributed and uninformative, did not provide sufficient time for class members to opt out, and made no mention of the million dollar fee for the lawyers. He held that "it is hard to imagine a more inadequate notice plan and claims process."

The effect of the ruling was that Judge Tennille refused to allow the class plaintiff to dismiss its North Carolina class claims with prejudice, even though Sears had joined in the motion.  Judge Tennille allowed the dismissal of the class claims without prejudice. 

The class plaintiff and his adversary then both appealed Judge Tennille's decision. So, the Court of Appeals was faced with the curious situation of Appellant and Appellee both arguing that the lower court was wrong. 

Each side filed its own brief, and each side filed a response to the other's brief. There was an Appellant's Brief from Plaintiff which said that Judge Tennille's order was "bizarre and unbelievable" (on p. 17), an Appellant's Brief from Sears saying that the Order was "astonishing" (on p. 12); and an Appellee's Brief from Plaintiff and an Appellee's Brief from Sears also urging reversal. So, in the end, the Court had four briefs saying how very wrong the Business Court had been.

A pivotal issue was whether Judge Tennille's approval was even required for the dismissal to be taken.  The Business Court had held in a number of cases, including Moody, that when a claim is made on behalf of a class, court approval is required before any dismissal, even if the class hasn't yet been certified.  Moody presented the first opportunity for the Court of Appeals to deal with that issue, and it rejected the argument that the North Carolina Rules of Civil Procedure require approval before a pre-certification dismissal.

The Court further held, however, that "our holding does not imply that a trial court wholly lacks authority to review a motion for pre-certification dismissal of a class-action complaint."  The Court observed that "[w]ithout some level of pre-certification court supervision, there is an unacceptable risk that parties may abuse the class-action mechanism in myriad ways."  It set out the following standard:

We therefore hold that when a plaintiff seeks voluntary dismissal of a pre-certification class-action complaint, the trial court should engage in a limited inquiry to determine (a) whether the parties have abused the class-action mechanism for personal gain, and (b) whether dismissal will prejudice absent putative class members. If the trial court finds that neither of these concerns are present, the plaintiff is entitled to a voluntary dismissal. However, if the trial court finds that one or both of these concerns are present, it retains discretion to address the issues.

The inquiry is narrower, however, when a foreign court, like the Illinois court which had approved the settlement questioned by Judge Tennille, has already addressed these issues.  The issue, then, the Court determined, is one of full faith and credit. The Court of Appeals observed that the due process and jurisdictional issues considered by the Business Court had been "heard and answered" in the Illinois Court.  [The Illinois Judge had received a letter from Judge Tennille raising his concerns about the settlement and had inquired into those matters at a fairness hearing.]

The Court of Appeals held that any review of the approval of a class action by the courts of another state was "limited" to a consideration of whether jurisdictional and due process issues had been addressed by the foregin court.  It stated:

limited review serves important judicial interests in the efficiency and finality of class-action litigation, and ensures that no "waste of judicial resources" occurs by reason of "reviewing courts . . . conduct[ing] an extensive substantive review when one has already been undertaken in a sister state." Further, "second-guessing the fully[-]litigated decisions of our sister courts would violate the spirit of full faith and credit," and could make North Carolina the jurisdiction of choice for plaintiffs wishing to launch collateral challenges to other states' judicial proceedings. While North Carolina courts surely have an important interest in not enforcing constitutionally infirm foreign judgments, the appropriate manner of correcting foreign trial court errors is "by appeal within the [foreign] state system and by direct review in the United States Supreme Court."

The Court of Appeals concluded that "the jurisdictional and due process conclusions contained in the trial court's 7 May 2007 order were 'fully and fairly litigated and finally decided' in Illinois Circuit Court," and that "[t]his finding concludes our review and forecloses any reconsideration of the merits of the legal issues decided by the Illinois Circuit Court. . . .While we share the trial court's serious concerns regarding the final accounting in the . . . settlement, we are constrained to hold that the trial court erred by refusing to accord full faith and credit to the . . . settlement. We therefore reverse the trial court's 7 May 2007 order and remand this case to the trial court with instructions to dismiss the class-action allegations with prejudice."

The Business Court's opinion had gotten a lot of attention.  The Rand Institute for Civil Justice had called it "fascinating," and a Harvard Law School Professor who writes frequently about class actions had applauded it.

Despite the reversal, the Business Court opinion in Moody remains significant for other reasons.  It is a primer from Judge Tennille's perspective on what are acceptable class action settlements and notice procedures and certainly worth reading before presenting a settlement for approval in his court.